Time to ditch the dinosaur

Daniel Connell believes that a lack of innovation is hampering costing time and money as well as contributing to a stagnation of the energy trading markets

The mere use of the word revolution itself is often perceived as being a revolutionary act. It is the signifier of the upstart who wants to shake things up. For many, the very word can be the instigator of annoyance rather than inspiration. So why start with it?

Energy trading and the twenty-first century. These things are intertwined, necessarily and, in some ways, obviously. Yet here the question is posited: are they intertwined enough? Are we in a scenario where energy trading is linked enough to common stocks-and-shares trading; where energy trading is fit for purpose in the not-so-nascent twenty-first century? In a word, no.

If you were inclined to begin trading stocks and shares today and had the means to do so, you could register with a broker online in minutes and have funds cleared into your account in days. Not only this, but your trading mechanisms would be entirely virtual if desired: you click a button to execute a trade, and within moments the execution of said trade is relayed to you. This is an old revolution, unbuttoning the murky world of Wall Street trading and hedge funds so the wider world can participate. Such open access has brought with it many innovations too: take the trailing stop, for example. Once an impractical tool that was onerous for the broker, technology has simplified it to a straightforward algorithm. If I want to sell my stock at £50, say, but know that if it breaks through it could run and run, the answer would be simple: Trailing stop of £50, trailing the price by £0.25. Such a move ensures I get a minimum of £50 (or close enough to at execution – markets are still markets, remember!) but I can see how the market goes without having to be glued to the screen. It’s not a guarantee of maximising a trade by any means, but it’s a simple tool to squeeze a little bit more out of the market for minimal effort for all parties concerned.

Imagine my surprise, then, that there isn’t just a lack of easily available trailing stop functionality within UK energy markets, but little awareness of what it is! This raises a very interesting (or concerning, depending on your take) question about the sophistication of UK energy markets as a trading environment. Within the industry there is still a large reliance on ‘phone or email instruction for trade execution. Many suppliers offer a price and little more (in stock trading, for example, with Level 2 access you can see the Bids and Asks in real time: this gives you real insight into how active the market is and potentially deeper understanding of patterns of movement). The process of requesting prices and receiving confirmation of locked-in rates can take a very long period of time. This is wrong.

Less information and less automation disempowers the end user. This isn’t to say if these things were fixed, energy users would profit: most stock traders lose money (there is, and always will be, a difference between access to the market and understanding of the market). The point is that really, the lack of innovation on this side is costing everyone time and money, as well as stagnating the markets.

Liquidity, volatility and churn are all clear issues within energy trading. Presently, although the UK enjoys a mature market – not to the level of TTF or Henry Hub, but still – the churn rate simply plays into the hands of those who would happily maintain the status quo. The trouble is, this is a chicken-and-egg argument: is churn still low because trading mechanisms are antiquated, or are those structures outdated because liquidity isn’t high enough?

If the principle behind keeping things as they are is down to waiting for churn to increase, the industry faces a massive uphill battle: stockbrokers worked exceptionally fast in the late ‘90s to develop online portals and tools to enable trading worldwide and in any setting. They saw that, alongside increased commissions, the liquidity of margin flowing into their accounts held massive potential. Online stock trading is far more popular now than it was then, but the brokers had already built systems – this is why they are more sophisticated now; the revolution was nearly twenty-five years ago!

Naturally, market forces will be the driver of change – so don’t expect trailing stops as common practice within energy in the immediate future (at least as a default offering). But where we can affect change is the rapid digitalisation of energy trading, with increased transparency of market data and faster turnaround times. It would be no surprise at all to see churn increase considerably if every supplier and TPI had a portal, and these portals contained useful information pertinent to trading energy. More churn creates more opportunity and, paradoxically, more security: exiting a position becomes far easier when there are more buyers in the market.

Daniel Connell is energy markets analyst, ZTP