As the EU, the Group of Seven (G7) and Australia (aka the Price Cap Coalition) impose a $60 price cap on seaborne Russian-origin crude as of 5 December, the shipping and insurance industries are on enforcement agencies’ radars across multiple jurisdictions. The policy seeks to allow Russian crude to remain on the international markets, though not at the price desired by Moscow, as it continues to wage war in Ukraine. On 2 December, when the G7 announced the price cap level, Russian Urals crude traded at around $67 a barrel. The Russian government has rejected the cap and said it will make it illegal for companies to transact under it.

As enforcement agencies hastily developed preliminary guidance over recent weeks, the private sector has scrambled for more detailed information on its role in implementing the policy. Companies involved in the buying, insuring and shipping of seaborne Russian crude face the challenge of establishing appropriate due diligence processes, and gauging the risks of participating in oil sales. Experts told Financial Crime Digest that authorities may run into serious difficulties in enforcing the policy, which relies on a documentary attestation process vulnerable to falsification.

A novel approach

Price cap coalition countries in recent months have sought to balance cutting Russian oil revenues with acknowledging the commodity’s importance to the global economy at a time of growing inflation. Unlike other sanctions regimes imposed on major oil producers, the price cap is designed to keep Russian oil flowing on the international markets. According to the US Treasury’s Office of Foreign Assets Control (OFAC) preliminary guidance, the declared purpose of the ban is to enable a “reliable supply” of seaborne Russian crude to enter markets.

The policy has already caused problems for shippers mere hours after it came into force, with a group of tankers reportedly blocked by authorities from crossing the Turkish Straits. Ankara has sought letters from maritime protection and indemnity providers, known as P&I “clubs”, to confirm that the ships are fully insured. The clubs rejected the request, arguing that it goes “well beyond” their usual guarantees.

Experts told Financial Crime Digest that the price cap differs from sanctions regimes like those imposed on Iran and Venezuela, which do not produce such large quantities of oil.

Service providers in price cap coalition countries will be able to participate in seaborne Russian oil transactions so long as the price cap is respected and the cargo is destined for a country that hasn’t separately banned the fuel – although the Kremlin’s threat to block Russian companies from participating with the cap adds to uncertainty over whether the policy will prove successful.

Rachel Ziemba, Adjunct Senior Fellow at the Centre for a New American Security, said that in this way the policy can be seen as a sanctions exemption. The price cap helps reduce the bite of an embargo on EU companies facilitating the volumes of seaborne oil from Russia, creating confusion in the marketplace.

“It’s not just the price cap itself – there are new rules and restrictions, and so in a sense the price cap is an exemption to those rules, if the price is right”, Ziemba said.

Services caught up by the policy include trading, commodities brokering, financing, shipping, insurance, flagging and customs brokering. Ziemba said that as an estimated 80 percent of all shipping, insurance and reinsurance companies are located in G7 countries, the coalition designed the policy based on its dominance over the services involved.

The policy is also unique for its targeting of a price level to restrict revenues rather than oil volume. In Iran’s case, sanctions waivers were granted for a period of six months if countries agreed to significantly reduce their volumes. With the new Russian policy, the goal is to keep the volumes high while reducing revenues for the target, Ziemba said. With Iran, “it was a much smaller amount of oil at stake – Iran was producing less than four million barrels per day,” she said. According to the International Energy Agency (IEA) Russian output was 9.7 million barrels per day in October and Russian oil export revenues stood at $17.3 billion the same month.

Ziemba added that the role of the private sector in price cap coalition countries is key in making the policy a success. “A lot of sanctions rely on private sector enforcement. But this is one that particularly does – it relies on actors throughout the supply chain to attest that this cargo is in compliance with the rules,” she said.

Challenges ahead for private sector and law enforcement

The private sector and authorities in price cap coalition countries will face a novel test in confirming transactions are compliant, experts said. Price cap evasion could occur in multiple ways, either by falsifying document information, by engaging in deceptive ship movements designed to make monitoring processes more difficult, or a combination of both. The due diligence burden could be too significant for some market players, involving checks on individual shipments and transactions.

Ben Gwilliam, Head of Intelligence Operations at Geollect, a company which specialises in maritime tracking, told Financial Crime Digest that the sanctions regime presented monitoring complexities which are “not as clear cut as others in places like Iran and Venezuela”. Gwilliam said that aside from the difficulty of understanding exactly what has been loaded at the point of origin and relying on the honesty of the charterer or ship owner, analysing the vessel’s draught could help monitor potential evasion. However, “it remains to be seen how accurate and successful this will be in terms of monitoring trade flow”, Gwilliam added.

Gwilliam said lessons have been learned from the Venezuelan and Iranian sanctions regimes with respect to sanctions evasion, including a focus on counterfeit paperwork and bills of lading, masquerading vessels, fake vessel names and digital and physical identity tampering. However, it is “almost certain” that new and innovative techniques will be employed to obscure the origin, price and quantity of cargo, he said.

Deceptive shipping practices are likely to evolve as traders become accustomed to the policy. Global Navigation Satellite System (GNSS) and Automatic Identification System (AIS) are two of the primary tools that are used by ships to achieve precise navigation, but both can be tampered with. Gwilliam said it is “relatively easy” to manipulate AIS as it was primarily introduced to avoid vessel-on-vessel collisions. The system does not have sophisticated security settings and can be remotely altered. GNSS manipulation can make the vessel appear to be in a different location entirely.

Gwilliam said he saw evidence of ship location manipulation activity when the war broke out. “The early stages of the Russia-Ukraine war showed some changes in behaviour that were picked up in our system such as AIS transponders being turned off and onward movement of cargo to a second and third vessel of different flag state via ship-to-ship transfer, but of course at this stage, the sanctions landscape was constantly changing and very difficult to understand,” he said.

Gwilliam said that technological advances have made vessel tracking and monitoring more effective, but noted that “the system was never designed for this, so is easy for criminal networks to tamper with.”

Another potential avenue for evading the cap is the so-called “shadow fleet”. This comprises ships not insured through the International Group (IG) – the thirteen P&I clubs which provide marine liability coverage for nearly all of the world’s ocean-going tonnage.

Craig Kennedy, a Russian oil expert at Harvard University’s Davis Centre for Russian and Eurasian Studies said that around 20 percent of vessels carrying Russian crude in the run up to sanctions are not insured by the IG.

For Russia to successfully evade the price cap by using its own ships, Kennedy said that it would take a lot of tanker capacity. “Russia is going to go from a situation where it has access to all the tankers in the world quite literally to one where it has tanker scarcity, as it doesn’t have nearly enough tankers available to simply ship its oil out much less execute these complex maneuvers that involve multiple tankers,” he said.

Under the Iranian oil sanctions regime, insurers sent out notifications to ship owners warning that if they violated the policy their insurance would be invalidated, Kennedy said. Chinese insurance groups reinsuring through the IG also notified ships that they would not insure vessels carrying Iranian oil. IG clubs have already issued similar notifications regarding Russian oil sanctions, Kennedy said.

Jonathan Froome, Global Head of Financial Crime with New York-headquartered professional services firm Marsh McLennan, which includes insurance broker Marsh and reinsurance broker Guy Carpenter, said it was unlikely those shipping Russian oil purchased above the price cap would be able to secure insurance from alternative jurisdictions.

Froome said that even if those shipping the oil purchased above the cap sought insurance elsewhere, many insurers outside the G7 and Australia reinsure their risks into London, the EU and New York. “A lot of the insurance world comes back to the G7 plus Australia – there would be a touch point somewhere,” he said.

While those shipping Russian oil purchased above the cap would certainly try to avoid using traditional insurers in the G7, Froome questioned the extent to which it would be able to trade at a meaningful level without abiding by the price cap. “I’m sure they will try, but I think they will find that they won’t get that many participants who are willing to support them”, he said.

Attestations and guidance play a key role

Under the policy, the oil trader or broker should submit price details to the ship operator. Shipping and insurance firms can request documents attesting to the fact that the cap has been respected. Parties closest to the transaction like crude refiners, importers, commodities brokers, traders and customs brokers need to consider the policy carefully as they are closest in the supply chain to price information, experts said.

The guidance released so far by regulatory authorities in the G7 highlights the importance of due diligence in ensuring that the price cap policy is implemented successfully. The US Treasury published on 22 November its updated guidance on the implementation of the price cap policy for seaborne Russian crude oil, alongside a determination pursuant to Executive Order 14071 implementing the price cap policy. The EU released its guidance on 3 December, whereas the UK’s Office of Financial Sanctions Implementation (OFSI) issued it just shortly before the policy came into force.

As not all market players have visibility on the prices involved or the underlying transactions, companies may struggle to establish whether to trust the documentary information or attestations provided to them.

Froome said an attestation is “probably the best that the insurance market can do – typically insurers will not see the underlying documents detailing the physical purchase and sale of Russian oil”.

Insurance companies can demand an attestation at the beginning of the policy year for their client who is shipping Russian oil to confirm the shipments over the next 12 months would be under the price cap, Froome said. “Even if the cap changed several times over the year, the attestation would still cover any changes in price”.

At the time of publication, neither the US Treasury nor the UK’s OFSI have responded to a request for comment. A representative of the European Commission’s trade strategy unit declined to comment.

The private sector can expect further due diligence challenges and related compliance costs in February 2023, when a ban on refined petroleum products comes into force.

James Lindop, Partner at London-headquartered law firm Eversheds Sutherland, said insurers, financiers and shipping companies have raised concerns in recent months about the burdens of complying with the policy. Companies face increased documentation requirements and other related costs when performing due diligence on oil transactions involving seaborne Russian crude.

Lindop warned it could be very difficult for companies to track the full course of transactions involved and trust that the information received is accurate.

He said that a problem for companies trying to comply with sanctions programmes was keeping up with the rapid pace of change in developments over recent months. Updates to the guidance from different authorities were being made in the final days before the policy came into effect on 5 December.

“Through the advice we have been giving on a daily basis, we have needed to track the evolution of the sanctions across multiple jurisdictions. The Russia sanctions in particular, for clear reasons, were drafted and implemented exceptionally fast – often without the same level of thought as to the commercial impact of the restrictions on UK and EU businesses,” he said.

Agnes Nicolescu, Junior Editor

agnes.nicolescu@aperio-intelligence.com

Roger Hamilton-Martin, Financial Services Journalist

Roger.Hamilton-Martin@aperio-intelligence.com