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May 28, 2003
NGI's Statement on Natural Gas Price Surveys
The reporting of wholesale spot natural gas prices, which Intelligence Press Inc. -- more commonly known as Natural Gas Intelligence or NGI -- has been doing for nearly 20 years, has come under fire and extensive discussion in the wake of the flame-out of the merchant energy sector.
NGI has participated in some of these discussions and is aware of the suggestions which have been made to improve price reporting. In recent months, addressing the reduction in trading and price report submissions, NGI has informed market participants of changes in its data collection in NGI's Daily Gas Price Index and NGI's Bidweek Report. In this statement today we are offering our readers, those who contribute to and use our pricing information, a comprehensive explanation of our position in the controversy that has developed over the function of price surveys.
At NGI, we have always been aware of the heavy responsibility we carry as aggregators and purveyors of natural gas price information and have worked hard at delivering a price report that is as complete and accurate as possible. It is not an easy job, but we have grown up with the gas market, learning its quirks and nuances as we went along.
Going forward we are very determined to protect the trust and responsibility the price reporting function requires. While the fact that false data has been submitted to energy price publications appears to have come as a surprise to some, indexing publications have long been aware of the threat to their indexes and have developed methodologies to help guard against manipulation.
In the wake of the reports of false submissions and government investigations into the nature of price discovery that publications perform, there have been suggestions for changes, for government oversight, and even for the federal government to take over price collection and reporting.
In this period after the nationwide collapse of the speculative stock market bubble, we realize the investigation of our function is just one part of the backlash that is affecting many companies, government agencies and financial institutions. We are concerned that, particularly for major companies in the energy industry, this backlash - the desire to place blame and extract retribution - may have gone too far. It is seriously damaging the operation of the fundamental energy market and the ability of the industry to reliably fuel the nation.
NGI's part in this is small, but the price discovery function is critical to the market, and we have taken the opportunity to examine our practices to look for ways to improve, and are proceeding on a number of fronts.
NGI Enlists Industry Cooperation
NGI has participated in the technical conference on published price surveys held by the Federal Energy Regulatory Commission (FERC) and engaged in discussions with the Committee of Chief Risk Officers (CCRO), which has developed a policy of "Best Practices."
We also have initiated action with the North American Energy Standards Board (NAESB) to have that organization, with industry and publisher participation, standardize and define the locational pricing points used by price index publishers. NAESB has given us indications that, pending action by its board, it will be able to undertake the standardization.
Most importantly, NGI is broadly distributing a solicitation for companies which have not reported prices in the past or who have let their price reporting lapse to make contributions to our surveys in the interests of a robust market measure. We also have appeared in various forums to urge buyers and sellers to do less indexing to our publications' prices and those of others, and more fixed price trading, particularly in the monthly baseload market.
While NGI has contributed to the efforts to address the manipulation problems of the past, and guard against their return in the future, we are more concerned that the downsizing of the traders, the middle men in this market, has left a serious void of fixed price trading. Utilities and producers have always tended to index, leaving the heavy lifting of fixed price trading to the marketers.
Most of those marketers are gone or with their credit reduced, have downsized to the point where they make very little contribution to the monthly fixed price market. Their credit apparently is adequate to cover daily transactions and that market is more robust, but their participation has declined precipitously in the monthly baseload market, where the bulk of the gas is traded.
We are seeing regional marketers expanding to some degree to fill the trading gap, and we are urging others to do at least some of their transactions at a negotiated fixed price. And, of course, report the transactions to the pricing publications. NGI is circulating a letter to market participants and offering to sign a confidentiality agreement with those who will join our survey.
The CCRO has proposed a contract, the "Data Submission, Usage, and Confidentiality Agreement" (DSUCA) to be used as a model to be signed by market participants in price surveys and the publishers doing the surveys.We agree in principle with much of what the CCRO has proposed. The CCRO, however, being a large committee with many members to please, has created a rather lengthy (17 pages) and complex agreement, which could be discouraging to would-be participants and cause a delay in the process of revising and re-establishing reporting relationships.
Proposed Confidentiality Agreement
NGI has created a one-page letter of understanding (LOU), which we believe covers the main tenants required by publishers and participants in the survey process. Again, we understand we are dealing with many different companies with various degrees of legal concerns and are willing to discuss alterations to the contract or substituting a company proposal, understanding that the main goals are to ensure confidentiality and timely, accurate reporting.
Basically, NGI's proposed agreement states that NGI will:
- Make all reasonable efforts to ensure the confidentiality of the data received;
- Limit the circulation of data to employees solely engaged in the price survey and review process;
- Ensure that the data is only used as part of its survey methods for its spot gas price tables and the review of those methods. The unaggregated data will not be used for any news stories, analysis or research.
- Archive the data for one year for use in reviewing and refining its internal procedures;
- and Make the data available to external auditors for their review of NGI's data handling and publishing practices. The auditors must sign non-disclosure agreements covering the unaggregated data provided by market participants.
Data providers, under the LOU would pledge to:
- Submit data from a central, mid or back office reporting source within the company;
- Make reasonable efforts to report all transactions -- not intentionally excluding some transactions and reporting others;
- Provided detailed, transactional level data including the date negotiated, flow date, location, volume and price, and separating out and designating physical basis transactions as such;
- And, if possible, include counterparty and buy-sell information.
A copy of NGI's proposed agreement is available at http://intelligencepress.com/features/ngi_letterofunderstanding.pdf. We will be happy to discuss it and possible additions and subtractions, since we are interested in getting the broadest possible participation in our daily and monthly surveys. We know there is a debate raging in the industry over whether counterparty and buy-sell information should be included. Presumably, some day it will be resolved -- or not. In the meantime we will not let that debate stand in the way of getting the broadest participation in our surveys.
NGI is very strongly of the opinion that multiple submissions and price quotes from the largest, most varied number of market participants is the primary factor in achieving accurate published prices. A robust sample is the strongest defense against attempts to manipulate either the published prices or the underlying market. Thin markets are more easily pushed and may not be reflective of underlying supply and demand. They therefore will not provide the proper signals for needed investment in infrastructure and to allocate supply to its highest uses.
Bolstering the Market and Slowing the 'Train Wreck'
Currently the natural gas market is facing its stiffest challenge since trading began 20 years ago. Those who would reduce and control the competitive market have been lobbying Congress, the Federal Energy Regulatory Commission and other government agencies to install stiff reporting requirements to allow government to track every move the market and its participants make.
With a shortage situation looming prices have been going up, and market pressures could increase, depending on storage fill and the summer and winter weather. If they escalate wildly, consumers will revolt and the political pressures to cap or control prices will surely increase. That type of action would simply act to discourage drilling and decrease supply. One analyst has described the current situation as "watching a train wreck coming."
The natural gas industry and its large end user and utility customers need to do everything they can -- NOW -- to slow down that train. The higher prices are spurring producers to increase drilling, but the accessible reserve base is diminished and the lead time is the killer. Congress needs to act responsibly to open promising areas to development if natural gas supply for the nation is to be sustained long term.
In the short term buyers and sellers can do their part to help the market flourish by increasing their participation in fixed price contracts and reporting transactions to the pricing publications. More market participants increasing their attention to the contracts they sign, and reporting data to the publications will help iron out some of the wild gyrations that occur in a market under extreme pressure.
A true market requires input from all sides to keep the prices in line. Some analysts have suggested that if those who actually produced and used the gas had been more active in the fixed price market, the broad price swings seen in recent years might have been moderated. While indexing is convenient, it makes buyers and sellers "price takers" instead of "price makers."
Regulators and legislators can contribute to stability by encouraging a public understanding of the forces of supply, demand and conservation, opening up federal lands to increase supply, and refraining from panicky screams of "manipulation" every time the price goes up.
State regulators can refrain from using a single measure of how close utilities come to the indexes to determine whether utility purchases are reasonable, since this encourages utilities to index much of their total load. Regulators, charged with protecting consumers' interests, should encourage utilities to participate in the market to counter-balance those seeking higher prices.
Those who would replace the current system of price surveys by publications should be aware of the long lead time and difficulties involved in developing a substitute for a system that has been honed to fit the industry for 20 years. Possibly in the future a new and better system could be developed. Those who have proposed these systems should take time right now to gain industry support and study closely the functionality of the measures they have proposed, to fine-tune them so they can be gradually introduced without an extensive systems shake-out period, once the market has recovered.
Right now -- heading into a critical period -- is not the time to discard the established system, as all of the major industry and end user groups have recognized in advocating bolstering the existing systems of published prices.
NGI, for its part, has been working with government and industry groups to explain the functioning of the natural gas market, to improve the price survey process and increase the number of participants, as outlined above. In addition, we have attempted to guard against wide distortions in the thin market, using secondary buy-sell information and our experience and knowledge of relationships, both historical and current basis reports, and physical market conditions when necessary. We have noted when secondary information is used, and we are very much looking forward to a time when these measures will once again only be used for routine verification of questionable submissions.
Those devoted to strict statistical formulations have derided the use of what they call "subjective judgment" by publishing companies. We would offer that one description for this "subjective judgment" is "expertise." If these were elaborate surveys with unlimited time and total access to all information and the underlying markets were actively traded, you certainly would eliminate so-called "subjective" judgments. As it is, we at NGI will continue to put our expertise and thorough knowledge of the market to good use.
Need for Baseload Fixed Price Trading
We are hoping we have come through the worst of the market and reporting contraction, which appeared to bottom out in November, 2002. Participation has steadily improved (except for March bidweek) since then. However, we have noticed that the more volatile the market is, the more buyers and sellers tend to index rather than trust their own judgment, which causes concern for the future. The irony in the debate over the validity and lack of confidence in the published price surveys has been that some of those who have been the most critical have been indexing more than ever.
NGI continues to encourage market participants to do as many fixed price trades as possible and report them in the price surveys. NGI also includes physical basis trades, and those submissions should be identified as such. If you do not currently participate in the surveys and would like to, call Mark Curran at 503-235-1174 or Dexter Steis at 703-318-8848. You also may contact Editor/Publisher Ellen Beswick to discuss our price survey policy. Curran and Beswick have addressed meetings at FERC and industry forums and are available to talk to other groups. Information about our veteran staff is available at http://intelligencepress.com/whoweare.html.
We also encourage companies not to put restrictions on their traders talking to our price reporters about market conditions and prices they have seen. It is important for us to keep in close contact with the market, and access to traders is crucial.
NGI's price survey methodology for the delivered to pipeline spot prices published by NGI's Daily Gas Price Index and NGI's Weekly Gas Price Index is available to anyone on our website at http://intelligencepress.com/methodology.html. It includes a description of our large and varied source base, our pledge of confidentiality, specifics as to type and timing of price information we use, our method of volume weighting price submissions to create an average and a description of outliers that may be excluded.
The final judges of our product are those who have continued to use it over the last 20 years. Market participants are aware of what is going on in the market and have in the past ceased using prices from publications which they believed did not consistently reflect that market. Unlike the power market, the natural gas market has developed over long years into an efficient and competitive market. Likewise the price reporting on natural gas by NGI and Platts have come to be accepted as a reasonably accurate reflection of that market.
Additional evidence of that can be seen by examining trades on the new Intercontinental Exchange. A substantial number of the trades are indexed to Platts or Natural Gas Intelligence. Indexes published in Natural Gas Week also are used at certain points. The New York Mercantile Exchange uses Platts' and NGI's published indices at different locations to settle some over the counter trades.
Here, it is important to note just what price reporting by publications is and what it is not. It is not a mandatory survey that collects data on every transaction and has an extended time period for reviewing all the data points.
Publishers' Surveys Useful in Fast-Paced Market
It is what the market requires, however: a snapshot that collects as much information as possible on a voluntary basis on where the market is at the time and publishes it quickly so that market participants can react. The market requires this fast feedback in order to work efficiently and accepts as a trade-off that the published prices are not the result of perfect mathematical calculations of all trading that occurs.
Journalistic organizations typically have been the collectors and publishers of market price information for several reasons: (1) they are unbiased and hold no interests in the commodities traded; (2) they work smart and fast and have ironclad deadlines; (3) they can promise confidentiality of competitive information under most circumstances because of press protections written into the First Amendment to the Constitution. Prices of many commodities are tracked by journalistic organizations. As an example, American Metal Markets has been publishing prices for steel and other metals since the 1880s.
Because the science of price reporting is inexact it functions best if there are competing sources of market information - from other publications, from Nymex and other exchanges. This keeps all of our feet to the fire to put our best efforts into the enterprise. Noted petroleum industry analyst Phillip Verleger has endorsed published price indices, saying "You need at least two, maybe three or maybe four aggressively competitive press organizations" tracking the market. You could include the expanding trading exchanges as providing some of that competition.
Now -- with shortages pending and a very thin fixed price market -- is not the time to discard the pricing publications, or what is left of the natural gas market-making and price discovery apparatus. Any organization or government agency attempting to measure the market right now would face the same major problem currently faced by the pricing publications, and without the years of market experience to help deal with it.
In the last six months we at NGI have seen a marked increase in the quality of the data that we receive in our price surveys; most companies are reporting transaction level data from their mid or back offices on a consistent basis in electronic format with a number of companies also providing counterparty and buy sell information. While more needs to be done many of our concerns about spurious data have been alleviated.
The problems we face in today's market are not with the quality or truthfulness of the information we collect but rather the lack of trading activity in the markets we cover and the quantity of information available. Buyers, sellers and regulators should be focusing on rebuilding the market, contributing input by abandoning indexing at least for some of their transactions, doing more fixed price trading, and reporting transaction data to the pricing publications whose indexes so many depend on.
At this juncture we feel that those concerned with published prices should focus on increasing participation in the confidential surveys of the news organizations as well as aspects of policy that serve to increase participation and activity in fixed price trading of natural gas.
Right now, the problem is not the bean-counters, it's the lack of beans.
Ellen Beswick Mark Curran
Editor/Publisher Price Editor
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