Monday, June 28, 2010

BP Energy Trading Reveals over $8 Billion in Derivatives

The Federal Reserve Bank of New York probed Wall Street's exposure to BP, should it declare bankruptcy.

BP's SEC filings indicate nearly $9 billion in derivatives (fair value). That includes $7.8 billion in derivatives held for trading and $1.1 billion in hedges. Over $4.4 billion in trading derivatives are related to 2010 events/conditions with nearly $3 billion in bets on natural gas prices. Over 97% are Level 2 or 3 assets. BP's bets include:

Currency derivatives
Oil price derivatives
Natural gas price derivatives
Power price derivatives
Other derivatives

Recall the razor blade impact of derivatives on Lehman Brothers. When Wall Street lost trust in Lehman's ability to pay, capital calls came in on Lehman's massive derivative exposure. The combination of capital calls, inability to rollover short term financing and imploding asset values sent Lehman to its grave.

While BP is sold as the Titanic, unsinkable, a much smaller energy company went bankrupt over bad energy bets. SemGroup imploded from $3 billion in losses on hedges. The Carlyle Group affiliate claimed ignorance of the energy trading activity, hiring Louis Freeh to investigate the matter. When sued by shareholders, Carlyle's offered puffery as a defense.

The Federal Reserve continues its Diogenes like search for systemic risk. As usual, it is unable to find it in BP or private equity underwriters (PEU's). Where will futures take us? Which derivative course will express in reality? Have financial models caught up? Are they now capable of projecting systemic risk?

As for BP, they failed to manage drilling risks in the Gulf of Mexico. BP energy traders have a similar blot on their record. Will the future look like the past, fall 2008? First Lehman, maybe BP. Uncle Sam could be a BP creditor.