In the first edition of our "Next big thing" series, we take a look at oiltech and, to a wider extent, commoditech.
The rise of Big Data, changing regulations and evolving real-time trading trends are leading global commodity giants, trading houses and other market participants to think about recalibrating their traditional models and how business will be conducted moving forward. This is understandable given the sums that are at stake, with research from consulting firm BCG estimating that the commodity trading industry’s potential value pool is worth around $70 billion per year.
Change is comingMargins within commodity trading are eroding, and indeed, it appears as if the industry as a whole needs to come to terms with a less profitable reality. According to research from Oliver Wyman, gross margins dropped some 4.5% in 2016.
However, new players are emerging, either starting up businesses or backing those aiming to re-engineer some traditional methods.
"It is fascinating to see just how fast things are evolving," Florian Thaler (pictured) told PitchBook. Thaler is a former oil strategist at hedge fund Och-Ziff, Shell and Citigroup, and a co-founder and the current CEO of OilX, a tech startup that has set out to revolutionize oil trading analytics. "Commodity trading and oil trading as the largest commodity will be significantly shaped by two mega-trends, namely new data sets from remote sensing via satellites, as well as superior data science models that can process, curate and combine data in near real time on a massive scale."
Shifting powersThese themes are also altering the power balance between the new entrants and established industry players such as oil majors, banks, brokers and service providers.
"The general complacency toward smaller players who are doing things differently is diminishing, but we still have some way to go," Thaler said. "It is encouraging to see that money is being invested and that traditional VCs and some large family offices have realized that the market is going to look fundamentally different than it does now in only three to five years."
Blue Bear Capital is one of the few thus far that have begun backing companies in the space. The firm invests in companies that apply data-driven technologies to the energy supply chain and counts some of the industry's most prominent names as advisors, including former BP board member and CEO John Browne. All of its portfolio hails from the space and includes companies such as Expedi, a supply chain procurement platform for the energy industry.
Another backer is CommodiTech Ventures, a specialized early-stage venture fund investing solely in commodities technology and founded by former traders Etienne Amic and Jose Tumkaya. The industry veterans both believe that trading by gut instinct is simply outdated and the equivalent of being stuck in the analog era.
Enter technologyOn the face of it, commodity trading actually sounds pretty straightforward: Make a profit by monetizing market imperfections such as those related to quality, time and location.
The reality is, of course, more nuanced.
During his time at Shell, Thaler discovered that access to data was only one of the ingredients required to gain an advantage over competitors.
"The fact is that the oil majors have access to an incredible amount of data, but the way that information gets utilized is very siloed and limited," he explained. "In contrast to this, my experience at a hedge fund showed quite the opposite: limited access to information, but amazing tools and systems. It demonstrated to me that superior data systems can be very powerful."
OilX's vision is to combine the data science tools of a modern hedge fund with the knowledge base of an oil major. Its setup mirrors the technological innovation of Signal Ocean, a venture looking at a similar disparity in the shipping industry, with the aim of improving commercial performance of its clients.
Signal Ocean is a co-founder of OilX and its technology partner. Thaler and his partner have effectively created a digital twin of the oil supply chain without owning any assets in the chain, by applying AI and satellite technology to enable oil traders to make better decisions much faster than traditionally. The newcomers alter the already ultracompetitive space and could potentially reshape the industry's dynamic from asset-driven to data-driven.
Said Thaler: "While some of the market participants have begun to invest and embrace the changing environment, there is still a number that are only slowly coming to terms with the fact that having loads of people on the ground and owning assets around the globe is no longer good enough. What is currently happening is a seismic shift away from 'boots on the ground' to 'eyes in the sky.'"
The commodity trading industry has a long history of agility and constant adaptation. However, the speed of change and the diversity in background and skill set of new entrants in the space will require the big players to embark on new ways to create proprietary information flows and utilize algorithm-based analytics.
The incorporation of data science technologies into the decision-making process may also see a number of traditional players entering partnerships with some of the startups that are setting out to disrupt the industry.
Check out our 2019 Venture Capital Outlook.