Shadow Empires: Have the Great Commodity Houses Overplayed their Hands in Russia?
Illustration Depicting a World Map with Natural Resources and Goods (BuiltInCo)
By Jonny Rothberg
Trade in the world’s natural resources is a consolidated and shadowy business, dominated by a handful of enormous private commodity trading corporations—trading houses—that over the past seven decades have orchestrated wars, toppled governments, kept tyrants in power, and generally abetted chaos, so as to profit from price disparities—the simple business of buying and selling. The seven largest of these houses each routinely generate turnover in excess of one hundred billion dollars, and have minted dozens of billionaires—indeed, America’s third-richest family, the Macmillans, are commodity heirs. Their trade is the necessary evil that makes the global economy operate, a secretive business of selling the commodity wealth of the world’s poor, autocratic nations to its rich ones: they are the prime economic organizers of the world, the supreme manifestation of capitalism—Adam Smith’s ‘invisible hand’. Yet, in a perfectly organized market, they would not exist: perfect global knowledge of the going rates for different crude blends, shipping rates, or copper grades would render their arbitrageur ability, and thus their model, obsolete. But our market is not perfectly organized—far from it—and until now, the houses have played profitably with the hands they’ve been dealt, wheeling and dealing whenever geopolitical turmoil presents itself.
The top dogs of the commodity trade made their names by being quietly present, in some form, during most of the defining moments of the past seventy years. When, during the 70’s and 80’s, South Africa was embargoed by the entire world because of the regime’s apartheid institution, it was the oil trader Marc Rich & Co, predecessor of modern trading-and-mining giant Glencore, that stepped into the breach, circumventing the global embargo in order to secretly supply the regime oil, ensuring its survival for far longer than would have otherwise been possible, in a trade that netted the house and its partners an estimated 22 billion dollars in profit over a decade’s period. When, in 1972, a spectacular Soviet crop failure forced the Communists to make an emergency, secret crop purchase from the US, it was Cargill, today the world’s largest third largest house, that helped the Soviets buy up over a quarter of US crop harvest—a move that caused global crop prices to rise by half, prevented a nationwide famine in the USSR, and initiated a decades-long grain-trading deal between the two enemies, a rare bright spot in otherwise frigid US-Soviet relations. It was also the deal that first alerted the world to the hidden power of the commodity titans—and the Soviets to their usefulness. As the Soviets began to ink more and more deals with the commodity firms during the last decades of the Cold War, the groundwork was gradually laid for what would become some of the houses’ most profitable trades ever, ones which helped shape them into the behemoths they are today.
But the plays these houses made in the closing chapter of the Cold War had ramifications far greater than even they, famously savvy geopolitical operators that they are, could have ever anticipated, and have placed these titans in a world of pain today, as they try to extricate themselves from Russian markets they created and a Russian state they helped build. To understand how this came about, we go first to Christmas, 1991.
When the Union of Soviet Socialist Republics collapsed on December 25th of 1991 and the Russian Federation emerged from the ashes, a privatization initiative that Soviet leader Mikhail Gorbachev had started in the twilight years of the Union came to fruition as Russia, desperate to fight the combined crises of recession, hyperinflation, massive fiscal deficit, and separatist wars, found itself in dire need of cash. Borne of this desperation was the highly controversial loans-for-shares scheme, under which Soviet state assets were sold off in auctions to private hands at rock-bottom prices: assets like Sibneft, the Soviet gas combine and once the world’s largest gas company; Yukos and Lukoil, once among the world’s largest oil companies; Norilsk, Novolipetsk, and Mechel, the world’s great metals companies. The crown jewels of the Soviet economy.
But the businessmen who stepped forth to buy these glittering state assets found themselves sharing a common problem in logistics and operations. Where before, Soviet crude from the Urals and Far East travelled across Siberia via Soviet railroads and pipelines to Soviet refineries and was sold as petroleum and oil products via Soviet export ministries, now there was nothing Soviet. No infrastructure. No Soviets. In their place were disintegrating transport networks and new international borders. The centrally planned machine that had made it possible for bauxite mined in one part of the massive country to be turned to aluminum and sold hundreds, thousands of miles away suddenly evaporated, and the businessmen found themselves holding enormously valuable assets with no way to realize that value. Chaos ensued. The Mafia even got involved.
And into this chaos stepped the great commodity houses, inking joint partnerships and production deals with businessmen and the state alike, ironing out commodity purchasing contracts across the country that gave them long-term rights to buy up Russia’s aluminum, its nickel, its coal, its steel, its oil and gas.
Suddenly, there was a market again for Russia’s natural bounty, and the wealth of these Russian businessmen skyrocketed. No longer were they mere businessmen, or even ‘magnates’—no, with their unprecedented clout, these were to become the first Russian Oligarchs, men like Vladimir Potanin, Alexei Mordashov, Alisher Usmanov, Roman Abramovich—names that today cover the news as their empires are sanctioned, their yachts and mansions and their football clubs seized.
As for the commodity houses? Well, they profited enormously, too. In the three decades since they entered Russia, the top commodity firms generated trillions in combined revenues and tens of billions in profits. And since the top houses are all owned by small, shadowy councils of partners, these profits directly created several dozen billionaires and hundreds of multimillionaires, notably the Macmillan and Dreyfus dynasties and the shadow billionaires of Glencore, Trafigura, and Vitol: oligarchs all of their own.
As the traders became more and more involved in Russia, they began taking active interests in the commodity production side of the business, integrating upstream to control the whole supply chain from drilling, refinement, and transport to eventual sale of resources. Glencore, Vitol, and Trafigura, the top three oil houses, all bought stakes in or formed joint ventures with Rosneft, the Russian national oil company, moving them from being mere intermediaries to direct Russian business partners, opening them up to more potential profit—but also much more potential risk.
Today, the one-two combo of sky-high oil prices and enormous difficulty in selling Russian crude should be doubly benefiting the houses: as drillers, their drilled oil is worth more, and as traders, their core service of moving product is in immense demand by Russia. It would seem that, once again, the shrewdness of the great houses has paid dividends again.
But it may not be so simple. Indeed, this time, it looks very much like the houses have overplayed their hands. To be sure, the price disparity between Russian crude and global benchmark prices is one that the traders have been exploiting judiciously up until now, at great profit, and has thus far enabled the Russian state to continue waging its war. There are as of yet no major embargoes for the traders to circumvent, and thus no laws to be broken—just reputations to be besmirched and mired in controversy, which the houses are no strangers to.
But the reputational risk posed to the houses this time may very well be too large to stomach—it is potentially greater than at any point in the 70-year history of the great houses. The world, eager to know just how the Russian state remains able to finance its war, has given greater scrutiny to the inner mechanics of the oil-and-gas market than at any point since the 1973 oil crisis, and has cast an unwanted limelight on the central role of the houses, a limelight that directly inhibits their ability to go about the shadowy work of moving and selling politically toxic products—products with origins buyers are often deliberately ignorant to.
Now, across the world, these buyers that turned blind eyes to the Cyrillic on their barrels of black stuff are forced, either by a newfound conscious or global scrutiny, to care, and to shun that sweet, deliciously inexpensive oil—to shun the commodity traders.
With no-one left to sell to, the houses may well be left with lots and lots of unwanted, immovable product on their hands: the worst nightmare of a commodity trader. After all, an arbitrage is only as valuable as the ability to execute it. And that’s not all. With their previously clever joint ventures in Russian production turning them from abettors to accomplices in the eyes of the world, the houses are no longer able to paint themselves as simply reluctant middlemen, as they were able to in South Africa, the Soviet Union, and elsewhere: they are deeply involved, and liable.
Under enormous pressure to divest of their costly projects and not ink new contracts, stuck holding shipfuls of Russian crude with too few buyers, and with banks calling to ask about their loans—after all, the top traders all use enormous leverage to amplify their deals—one may be tempted to ask, how did they get it so wrong this time? They who have been plying their shadowy craft for longer than most of us have been alive? They who live for chaos like this?
Marc Rich, founder of Trafigura and Glencore’s predecessor and the widely considered godfather of the modern oil market, loved to say that his was the business of ‘walking the blade’ between riches and ruin. In his time, he found plenty of both, as both a billionaire and a fugitive on the FBI Most Wanted list. Now, decades later, his successors may be finding both again.
