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* Profit margins for oil traders set to shrink further
* Middle men disappearing from the business model
* Mideast state oil firms vie with established traders
GENEVA/LONDON, June 20 (Reuters) - For the world's biggest oil traders, it feels like a return to the 1980s when earnings were diluted by an abundance of crude.
After three decades of stellar expansion and booming revenues, profit margins at Vitol, Glencore , Trafigura, Gunvor, Mercuria and other merchants have been squeezed by a market again awash with crude and amid stiff competition from national oil firms.
A raft of high-profile U.S. probes into trading activities are also shaking up the business, echoing the transformation that followed the 1983 U.S. indictment of Marc Rich, the godfather of global oil trading.
Veteran executives, many of whom learned the trade in the Marc Rich era, say only the fittest firms will survive the new crisis.
"I've been hearing arguments about the death of trading for the past 30 years. But the reality is: there are those who adapt and those who disappear," Gunvor CEO Torbjorn Tornqvist said.
He said companies have always had to change with the market, such as adapting to the development of futures. But last year was particularly tough.
Vitol, Mercuria, Gunvor, Trafigura and the oil trading division of Glencore made a combined net profit of about $3.2 billion in 2018 on the back of $747 billion in revenues, compared with a combined profit of $5 billion in 2015 on revenues of $511 billion.
Consulting firm Oliver Wyman said trading margins fell more than 20% last year from a peak in 2015.
"We estimate margins could likely decline by at least another 15% over the next five years as commodity markets become more stable and more transparent and competition becomes more intense," it said in a report this year.
Executives say consolidation is inevitable, as rising market transparency means companies have fewer opportunities to exploit quality or timing dislocations between producers and end-users to win deals outside of exchanges or futures markets.
FEELING THE PINCH
While bigger trading firms can absorb the weaker profits, smaller companies are racing to find savings and cut staff.
Monaco-based Galaxy Energy has quit the crude trading business, while mid-ranking ECTP exited oil and most metals trading. Castleton Commodities International axed its physical metals business globally and its London oil desk.
Gunvor Group, one of the top five independent oil traders, lost money for the first time last year although it was back in the black in the first quarter of 2019. It is considering asset sales.
Even state-run firms have felt the pinch. Azerbaijan's Socar Trading closed some refined products desks and shrank others.
Other companies aim to adapt by scaling up and boosting profits by trading bigger volumes. Swiss-based ArrowMetals said last month it was buying AOT Energy.
Increased transparency thanks to ship tracking and satellite imagery of key infrastructure, such as refineries and storage, has eroded the amount of proprietary information trading firms could once rely upon to give them an edge.
"Traders traditionally live on imperfections of the market. Digital technologies are erasing a lot of these opportunities," Tornqvist said, although he said technology boosted efficiency.
Trading houses are now investing in artificial intelligence and other technology to process the enormous amount of data available.
Vitol, the world's biggest oil trader, lifted traded volumes by a third in the last five years but added just 15% more staff. However, IT staff numbers rose by 60%.
"Classical research just isn't enough," said Gerard Delsad, Vitol's chief information officer.
RIVALS BEEF UP
Adding to the challenge, state-owned firms, scarred by the oil price rout between 2014 and 2016, want a bigger share of oil sale revenues. National firms in Saudi Arabia, Iraq, Abu Dhabi and Algeria are all working to expand their marketing arms.
Some oil majors also eye the action. U.S. giant ExxonMobil is beefing up its trading division. BP and Shell are already major rivals to the trading houses.
Meanwhile, old business ways, such as relying on agents, also known as intermediaries, to set up contracts between state suppliers and buyers, have become a focus of investigations.
U.S. Department of Justice, securities regulator CFTC and the Federal Bureau of Investigation (FBI), as well as Swiss and Brazilian prosecutors, have opened a range of probes into the use of intermediaries by several trading houses. The companies say they are cooperating with the authorities.
The extra scrutiny has encouraged more investment in compliance.
"You have to audit the intermediaries as if they were in your own companies if you want to be compliant with the guidance from the U.S. Department of Justice," said a senior commodities trading executive with decades of experience.
Gunvor said it had reduced the number of agents it uses by a third since 2018. Trafigura Chief Executive Jeremy Weir said this year the firm had also cut the number of agents it uses.
"The industry and others have beefed up compliance," Mercuria Group Chief Executive Marco Dunand said. "Investing in IT makes it easier to control potential legal issues."
"We educate people with monthly programmes," he said, adding Mercuria spent $10 million to $15 million a year on compliance.
Dunand also said his head of compliance sat next to him, adding it was no help if compliance officers "are miles away."
Probes and thinning margins are spurring leadership transitions at many companies, executives say.
"The new generation now have to make money. That's why they want to take over. They want the rich old dogs out of the way," said a large shareholder at a major trading house. (Reporting by Julia Payne and Dmitry Zhdannikov Editing by Edmund Blair)