(Bloomberg) -- Hedge funds piled into Europe’s gas market in the aftermath of the energy crisis, drawn to the intense price volatility. Their clout has grown so big that it now risks triggering a slump.
Funds including Izzy Englander’s Millennium Management, Ken Griffin’s Citadel and Balyasny Asset Management have beefed up hiring and collectively raked in billions through their commodities businesses in recent years. Overall, the sector is heading toward the end of 2024 loaded with record volumes of long positions — effectively a bet that prices will rise.
But with liquidity draining as participants start closing their books for the end of the year, the hefty wagers now dominate, threatening to inflict even more volatility in a fragile market. Speaking privately, several traders raised concerns that the concentration of the positions could lead to a selloff.
“The heavy concentration of positions stresses the market, pushing it to a limit that will eventually break,” said Arne Lohmann Rasmussen, chief analyst at Global Risk Management in Copenhagen. “And it becomes a real risk when everyone wants to get out at the same time.”
Hedge funds aren’t bad per se for a market’s functioning: they provide extra liquidity and create more buying and selling opportunities. But they can also amplify volatility and market shocks, according to a European Central Bank paper considering their role in government bond markets. Abrupt price moves are serious for power and gas, as they can have an immediate impact on consumers and put entire industries on hold.
While these players aren’t new to gas markets, the size of their involvement has taken off since Europe’s energy crisis. The region no longer depends on Russia for most of its gas supplies, but its exposure to international markets means events happening thousands of miles away can trigger sharp price swings.
The volatility has come at a high cost for industry and consumers, many of whom slashed consumption to curb bills. Europe’s economy has been slow to recover from the crisis amid uncertainty over energy costs, and more stable prices — whether low or high — would allow businesses and households to map out their spending plans.
“Volatility does not help anyone,” said Moutaz Altaghlibi, a senior energy economist at ABN AMRO Bank NV. “It makes it really hard for producers and consumers alike to plan ahead and make investment decisions.”
Meanwhile, Millennium earned about $600 million from commodities investments in 2023, partly driven by natural gas and power trading. Citadel’s commodities business generated about $4 billion of profit this year. Its founder Griffin said in a November interview that Europe’s pared back energy demand “has created a level of stability in the market.”
Citadel said it doesn’t comment on its positioning. Millennium and Balyasny also declined to comment.
At the center of the issue lies the fact that hedge funds’ money follows speculative bets. They don’t serve the same purpose as traditional power companies, which buy gas on behalf of customers or sell output from an asset.
The European Union’s Agency for the Cooperation of Energy Regulators said in an emailed response to questions that some of the algorithms used by hedge funds to trade have contributed to a significant increase in liquidity, which benefits all market participants. But the increase in the intensity of trading calls for more market transparency and strengthening of surveillance systems, a spokesperson said.
Meanwhile, a representative for the European Securities and Markets Authority said the agency does not have specific guidelines on hedge funds’ activities in energy markets.
More Turbulence Ahead
Expectations for a colder winter and delayed liquefied natural gas projects have undermined confidence that 2025 will herald more abundant supplies and ease volatility in Europe. Rapidly depleting gas inventories and the looming end to Russian flows through Ukraine have added to concerns.
But near-term market pessimism has already started to ease in recent weeks amid milder temperatures and stronger flows of LNG. With speculators having amassed a heavy presence, prices can change quickly when circumstances shift.
For instance, if Russian gas does keep flowing after a transit deal expires between Moscow and Kyiv at the end of the year, which is Citigroup Inc.’s base case scenario, “European gas will sell off as markets take off the risk premiums that they are baking in,” said energy research strategist Maggie Xueting Lin.
Volatility will eventually ebb once a new wave of LNG supply comes to the market. But there’s a risk it will leave deep marks on the region’s economy in the interim.
For now, “the market is quite bullish,” said George Cultraro, Bank of America Corp. global head of commodities. “But the most pain is not to the upside, it’s definitely to the downside because of that same positioning and I don’t think that anybody is quite ready to give up on the bull story just yet.”
--With assistance from Nishant Kumar and Alex Longley.
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