For an overview of the structure and background of the organization please see Commodity Futures Trading Commission. See also Credit default swaps, CDS clearing, CDS confirmation, Derivatives and Regulatory harmonization
CFTC Chairman turns back on Wall Street to push overhaul
- Source: Gensler Turns Back on Wall Street to Push Derivatives Overhaul Bloomberg, February 12, 2010
"Gary Gensler, chairman of the Commodity Futures Trading Commission, is shattering any illusions that his 18 years at Goldman Sachs Group Inc. would make him sympathetic to Wall Street’s effort to weaken derivatives legislation.
Over a private lunch at the Waldorf Astoria hotel on Jan. 6, Gensler, 52, told bank executives that while he once shared their goals -- to boost revenue and increase their bonuses --his responsibility now was to American taxpayers. And if he gets his way, Gensler said, their firms will be less profitable, according to three people familiar with the discussion.
Attending the lunch were David B. Heller, co-head of the securities division at Goldman Sachs; Seth Waugh, chief executive officer of Deutsche Bank Americas; Timothy O’Hara, head of global credit at Credit Suisse Holdings USA Inc., and Robert P. Kelly, CEO of Bank of New York Mellon Corp. When one banker asked Gensler what he sees as the biggest obstacles to reform, he gestured toward his hosts and replied, “You.”
Of all the regulators in the Obama administration, Gensler may be the most troubling to Wall Street, Bloomberg BusinessWeek reported in its Feb. 22 issue. In public speeches and congressional appearances, he seeks derivatives legislation that goes beyond what President Barack Obama proposed last summer.
His campaign to drag the $605 trillion over-the-counter derivatives market out of the shadows is designed to lower spreads between buyers and sellers and make it easier for new competitors to enter the market, ultimately depriving banks of billions of dollars in profit. On Capitol Hill, he goes toe-to- toe with lobbyists to try to stop them from winning even minor language changes that would create loopholes the financial industry might exploit.
Gensler “is going to raise real concerns” for financial firms, said Samuel Hayes, a professor emeritus of investment banking at Harvard Business School in Boston. “Derivatives are absolutely central to what is Wall Street in the 21st century. Nobody wants the regulations to affect them.”
Michael Greenberger, a former CFTC director of trading and markets who opposed Gensler’s deregulatory efforts as a Treasury official in the Clinton administration, said that “If there were no Gary Gensler involved in this, I think the legislation as crafted would not be as strong as it was.” Greenberger is now a professor at University of Maryland School of Law in Baltimore.
- CFTC Gensler: Determined To Reform OTC Market Wall Street Journal, March 18, 2010
CFTC Chairman modifies proposed legislation
Source: Gensler Seeks to Toughen Obama’s Derivatives Bill Bloomberg, August 19, 2009
"Gary Gensler, chairman of the U.S. Commodity Futures Trading Commission, is asking Congress to strengthen the Obama administration’s legislative proposal for regulating the over-the-counter derivatives market.
In a letter to House and Senate committee leaders, Gensler requested revising the bill to get rid of exemptions for small derivatives dealers, repeal parts of the Federal Deposit Insurance Corporation Improvement Act, and impose requirements to set aside money to back up trades.
“The law must cover the entire marketplace without exception,” Gensler wrote in the Aug. 17 letter to Senate Agriculture Committee Chairman Tom Harkin, an Iowa Democrat, and the ranking Republican on the committee, Saxby Chambliss of Georgia. Gensler attached more than 20 pages of language to insert into the bill “to ensure that we best meet this goal.”
- Source: CFTC Chairman Suggests Enhancements To Proposed Legislation Regulating OTC Derivatives, SEC And CFTC To Hold Joint Hearings On Regulatory Harmonization McDermott, Will & Emery, September 8, 2009
"Chairman Gensler's recommendations include amendments to existing laws such as the Bankruptcy Code, the Federal Deposit Insurance Corporation Improvement Act of 1991 and the core principles of the Commodity Exchange Act.
Gary Gensler, chairman of the Commodity Futures Trading Commission (CFTC), sent a letter on August 17, 2009, to the chairman and ranking member of the U.S. Senate Agriculture Committee, proposing several enhancements to recently proposed legislation language by the U.S. Department of the Treasury that would restructure the regulatory framework for the over-the-counter (OTC) derivatives markets. For more information, see McDermott's On the Subject, " Treasury Proposes Legislative Language to Restructure the Current Landscape for Over-the-Counter Derivatives Market Regulation."
Chairman Gensler's recommendations include changes to Treasury's proposal, as well as certain amendments to existing laws such as the Bankruptcy Code, the Federal Deposit Insurance Corporation Improvement Act of 1991 (FDICIA) and the core principles of the Commodity Exchange Act (CEA). The chairman also noted that CFTC staff would provide additional technical comments separately.
Chairman Gensler's recommendations fall within the following categories.
Eliminate the exclusion for foreign exchange swaps
Chairman Gensler raises the concern that the proposed exclusion of foreign exchange swaps might encourage market participants to break-up currency and/or interest rate swaps into their component parts and to restructure them in a manner that makes them resemble foreign exchange swaps or forwards, which are excluded from CFTC regulation under the proposed language. In addition to eliminating the foreign exchange swap exclusion, Chairman Gensler suggests retaining, but narrowing, the exclusion for foreign exchange forwards.
Mandatory clearing and exchange trading of standardized swaps
The administration's proposal would repeal sections 2(d), 2(e), 2(g) and 2(h) of the CEA to create two new categories of registrants and require all "standardized" OTC derivatives, including credit default swaps, to be cleared through a derivatives clearing organization that is registered with the CFTC or through a securities clearing agency that is registered with the U.S. Securities and Exchange Commission (SEC). All standardized OTC derivatives would be required to be traded on a CFTC or SEC regulated exchange or "alternative swap execution facility" (a new registration category for registered entities). Under the Treasury proposal, any OTC derivative that is accepted for clearing by any regulated central clearinghouse will be presumed to be a standardized contract.
The proposed legislation provides two exceptions to the mandatory clearing and trading requirements, including:
- If no registered clearinghouse will accept the swap for clearing
- If one of the swap counterparties is "not a swap dealer or major swap participant" and does not qualify to clear the swaps with a clearinghouse
Chairman Gensler suggests eliminating these exceptions and, instead, proposes that an end-user without direct membership access to clearinghouses establish a client relationship with a clearing member who could clear transactions on the end-user's behalf. Chairman Gensler explains that the two exceptions should be eliminated since they "undermine the policy objective of increasing transparency and market efficiency through bringing standardized OTC derivatives onto exchanges or alternative swap execution facilities."
Bankruptcy and set-aside provisions
In the event of a swap dealer's bankruptcy, Chairman Gensler recommends a mandatory set-aside requirement for collateral received by swap dealers, equivalent to the CEA's segregation requirement for futures dealers.
The chairman also recommends certain changes to the Bankruptcy Code to protect customers in the event of bankruptcy by a swap dealer. These recommendations would ensure for swaps customers the same protections provided to futures customers of commodity brokers. Such protections would include:
Transfer of the customer's funds to another solvent swap dealer in the event of bankruptcy without violating the automatic stay, and without the possibility of avoidance by the trustee Special priority (ahead of unsecured claims other than certain administrative expenses of the debtor's estate) in bankruptcy with respect to customer property, including segregated funds Multilateral Clearing Organizations
Chairman Gensler suggests repealing sections 408 and 409 of FDICIA, which allow banks and certain foreign clearinghouses (together, multilateral clearing organizations) to clear "over-the-counter-derivative instruments," as defined in the FDICIA. These provisions, according to Chairman Gensler, are inconsistent with the overall regulatory scheme of the Treasury's proposal. Under such a bifurcated regulatory system, swaps cleared by banks and certain foreign clearinghouses could be subject to different, and potentially lesser, regulatory standards.
Clarify the regulatory authority over mixed swaps
Chairman Gensler notes in his letter that the proposed Treasury legislation provides for dual regulation of mixed swaps by the SEC and CFTC. Mixed swaps are those that derive their value in part from a security or narrow security index, and in part from something such as a currency, interest rate, broad-based security index or commodity. The chairman suggests that such dual regulation, which is a departure from the existing allocation of regulatory responsibility between the SEC and CFTC, would result in duplication and inefficiency. Instead, Chairman Gensler suggests that the mixed swap provisions of the Treasury legislation be stricken. If a mixed swap's value is based primarily on a security or a narrow security index, it should be regulated by the SEC. Otherwise, it should be regulated by the CFTC.
Designated contract market core principles
The CEA provides a number of core principles for designated contract markets. Treasury's proposed legislation amends current core principles for execution and adds additional core principles addressing minimum financial resources and system safeguards. Chairman Gensler suggests additional measures to streamline existing core principles for designated contract markets. Specifically, Chairman Gensler proposes unifying the designation criteria and core principles for designated contract markets because they are redundant.
Retail off-exchange commodity transactions (non-FX)
Chairman Gensler addressed an element of the last Farm Bill known as the "Zelener fraud fix," which overturned a Seventh Circuit Court of Appeals ruling permitting parties to escape the CFTC's anti-fraud authority by selling off-exchange foreign exchange contracts to retail customers that were written as spot currency transactions, but which operated like futures contracts. Last year's Farm Bill closed this so-called Zelener loophole, but did so only with respect to foreign currency transactions. Chairman Gensler notes that similar Zelener transactions are now emerging that involve transactions other than foreign exchange.
Noting that the proposed Treasury proposal includes a broader Zelener fix, Chairman Gensler asks for additional tools to enhance the CFTC's anti-fraud capabilities, including:
Reduced timeframe for actual delivery of a commodity
Clarification of the term "actual delivery" so as to exclude delivery to a third party in a financed transaction where the commodity is held as collateral. In addition to these comments, Chairman Gensler suggested that he is considering additional amendments to the CEA to promote the CFTC's consumer protection goals through enhanced enforcement and oversight authorities.
“Over-the-Counter Derivatives Markets Act of 2009”
Source: U.S. Treasury Delivers Proposed Legislation on OTC Derivatives to Congress August 12, 2009, Alston and Bird blog
As the last piece of the Obama administration’s agenda for the reform of regulatory financial agencies, the U.S. Treasury Department delivered its proposed legislation, titled the “Over-the-Counter Derivatives Markets Act of 2009,” for the regulatory reform of the over-the-counter (OTC) derivatives market to Congress.
The proposed legislation is based on the following objectives of regulatory reform of the OTC derivatives market, enunciated by Treasury this past May:
- Preventing activities within the OTC markets from posing excessive risk to the financial system;
- Promoting transparency and efficiency of the OTC markets;
- Preventing market manipulation, fraud, insider trading and other market abuses; and
- Ensuring that OTC derivatives are not marketed inappropriately to unsophisticated parties.
To achieve these goals, Treasury proposed legislative language with regard to the following:
- Regulating the OTC derivatives markets by:
- Requiring central clearing and exchange trading of standardized OTC derivatives;
- Moving more OTC derivatives into central clearing and exchange trading through the implementation of higher capital and margin requirements for non-standardized derivatives;
- Broadening the definition of standardized OTC derivatives to “be capable of evolving with the markets”;
- Giving the SEC and CFTC clear authority to prevent market participants to use false customization to avoid central clearing and exchange trading; and
- Requiring transparency for all OTC derivatives markets by providing all relevant federal agencies with confidential access to OTC derivatives transactions and related positions of individual market participants, and providing public access to aggregated data on open positions and trading volumes.
Regulating all OTC derivative dealers and other major market participants by:
- Requiring the federal supervision and regulation of any firm that deals in OTC derivatives and any other firm that takes large positions in OTC derivatives;
- Requiring OTC derivatives dealers and major market participants that are banks to be regulated by the federal banking agencies, while requiring those that are not banks to be regulated by the CFTC or the SEC;
- Requiring the federal banking agencies, the CFTC and the SEC to provide strict capital and margin requirements, and to issue and enforce business conduct, reporting and recordkeeping rules, for all OTC derivative dealers and major market participants.
- Preventing market manipulation, fraud and other market abuses by:
- Providing the CFTC and the SEC with authority to deter market manipulation, fraud and other market abuses, and to set position limits and large trader reporting requirements for OTC derivatives that “perform or affect a significant price discovery function with respect to regulated markets.”
Protecting unsophisticated investors by:
- Tightening the definition of eligible investors that are permitted to engage in OTC derivatives transactions.
CFTC proposes position limits
- CFTC’s Division of Market Oversight Issues Advisory Regarding Intraday Speculative Position Limits CFTC, May 7, 2010
- Regulator seeks to rein in energy market trading by big Wall Street firms Washington Post, April 1, 2010
- Source: FACTBOX-Profiles of CFTC commissioners on position limits Reuters, January 19, 2010
The U.S. Commodity Futures Trading Commission last week released its long-awaited proposal to curb speculation in energy futures markets, but several of its top officials expressed reservations that could make it harder for the regulatory agency to finalize its plan.
The measure is the first major regulatory reform for the top U.S. futures market regulator, led by Chairman Gary Gensler.
Gensler, a Democrat, is one of five CFTC commissioners appointed by the president.The commissioners have released the plan for public comment, but must vote again for the proposal to become final.
Here are profiles of the other four commissioners.
A Democrat first appointed to the CFTC in November 2004, Dunn said last week he supported seeking public comment on the position limit plan but had “serious reservations” about it.
Without corresponding changes to over-the-counter regulatory authority and similar undertakings by other nations’ regulators, Dunn said he feared the plan could make the energy market less transparent by driving some traders into unregulated markets or overseas to circumvent position limits.
“My vote to release this proposed rule should in no way be construed as an agreement with the opinions expressed in the proposal or to the approach advocated in setting these proposed position limits,” he said.
Dunn, a 65-year-old Iowan, chairs the CFTC’s agricultural advisory committee, which has been engaged in exploring problems in wheat and cotton futures contracts.
Dunn previously worked at the Farm Credit Administration and was an agriculture undersecretary during the Clinton era, heading USDA’s rural development and agricultural marketing wings. He was active in agricultural credit from the 1970s in the U.S. Midwest.
A Republican and Kansas native, Sommers was the only commissioner to oppose releasing the plan for public comment. Her concerns echoed those of fellow commissioner, Michael Dunn.
“I dissent from issuing the proposal,” she said last week. “While I wholeheartedly support efforts to enhance our authority in this area, I am concerned that forging ahead with federal limits in a piecemeal fashion is unwise.”
Sommers worked in the commodity futures and options industry for most of her professional life before becoming a commissioner in August 2007. She chairs the CFTC’s advisory committee on global markets.
Sommers, 41, worked in the government affairs office of the Chicago Mercantile Exchange and then as policy director for the International Swaps and Derivatives Association before her appointment to CFTC. Prior to that, she worked for two agricultural consulting firms in Washington.
Chilton, known for peppering his speeches with pop culture references, has been a strong proponent of position limits.
“This proposal strikes a reasonable balance,” said Chilton, who believes the proposed limits err on the high side.
“Simply put, it seeks to impose mandatory hard-cap position limits. Doing so is not the mark of wild-eyed overzealous regulators.
Chilton, 49, was the most vocal CFTC member in calling for financial regulatory reform in early 2009 until Gensler, arguably the CFTC’s heavyweight, took office.
A Democrat first appointed in 2007, Chilton helped lead President Barack Obama’s transition team for USDA. He was deputy chief of staff for former Agriculture Secretary Dan Glickman during the Clinton era and also worked on Capitol Hill, including as an aide to the Senate majority leader.
O’Malia, a Republican, is a former staffer on Capitol Hill who worked on energy issues. The 42-year-old was confirmed in October 2009.
He said last week the proposed limits could result in less U.S. regulatory oversight and asked if they were even necessary.
“The fact that the proposed position limits are modeled on the agricultural commodities position limits forces us to examine hether those agriculture limits were effective in preventing the price spikes in 2007 and 2008. Despite federal position limits, contracts such as wheat, corn, soybeans, and cotton contracts were not spared record-setting price increases,” he said.
O’Malia also spoke against excessive leverage and risky trading practices during a September 2009 hearing.
(Sources: CFTC website, Reuters and Senate archives)
- Source: Digging deeper into the CFTC’s position limits FT Alphaville, January 20, 2010
Energy analyst Olivier Jakob from Petromatrix has crunched through the CFTC’s proposals on position limits released last week.
His findings are worth flagging up because they differ to the consensus view that the proposals, if enforced, would be a benign influence on energy markets.
First, he guesstimates the limits would certainly affect at least one large Wall Street investment bank offering a leading commodity index. And while the bank — which he does not name — could apply for an exemption to a maximum of 130,000 WTI contracts on a single month, they would then be prohibited from holding speculative positions. In other words, would it be worth it?
According to Jakob, therefore, the limits create an uncomfortable situation for some of the larger Wall Street investment banks offering commodity indices — and could force them to choose between operating index and swap businesses versus proprietary books.
Furthermore, there isn’t an easy side-route out of the restrictions, say by starting subsidiary hedge funds or physical operations. That’s because the limits are imposed on an aggregate basis per owner institution — and when exemptions are granted, speculative operations are restricted. As Jakob noted:
Opening a series of hedge funds controlled by the Swap Dealers would not be a solution as the CFTC proposed rules would also make this illegal. Owning a Physical trading entity would also not be a solution as Commercials with limit exemption would be restricted from holding speculative positions and could not act as a Swap Dealer if their position is above two times the limits. In smaller markets like heating oil, meanwhile, this could pose an even greater challenge for the banks, according to Jakob:
The greater problem might actually arise with Heating Oil which has a Single Month limit of 6’800 contract and given that some of the Wall Street Investment Banks offering leading Commodity Indices are also leading hedgers to the airline industry we would expect that a few Wall Street Investment Banks will hit the limit on Heating Oil which would then require an exemption, which then limits speculative activity. And while ETFs like the United States Natural Gas fund — which famously broke through accountability limits in 2009 – may have prepared for the CFTC ruling by moving into the bilateral and unregulated OTC swap market, they too might be restricted by the CFTC’s swap-dealer ruling. As Jakob noted:
Outside of bilateral swaps, the UNG is holding the equivalent only of about 36’000 contracts which would still be below the CFTC Single Month limit. However, the UNG would have to find Swap Dealers that would not be restricted themselves by limits, and since Swap Dealers that would have an exemption could be required by the CFTC to provide the list of clients and the daily activities with those clients, it could then become a risk factor for the Swap Dealers or any other entity that is fronting for a Fund that is itself subject to position limits.
Sounds like more of a headache than first anticipated.
CFTC or exchanges to set position limits
Source: Divide grows on setting U.S. energy position limits, September 16, 2009 Reuters
The top U.S. futures regulator and two main commodity exchanges were conflicted on Wednesday over who should set tougher position limits if the the Commodity Futures Trading Commission proceeds to take action to curb market manipulation.
At issue is whether the CFTC or exchanges — such as IntercontinentalExchange Inc and CME Group — should take the lead if the agency decides to set how many futures contracts can be held, so-called position limits, by traders in the energy arena.
A decision from the CFTC is expected this autumn as part of a campaign to reign in excessive speculation that has been blamed for sending oil prices to record highs last year.
To protect against market manipulation, the CFTC already sets limits on the contracts each investor can control in some agricultural commodities.
Its success is evidence the CFTC also could handle energy, Bart Chilton, a CFTC commissioner and chair of its Energy and Environmental Markets Advisory Committee and others argue.
“I’m convinced we could do it,” said Chilton at a meeting the committee held in New York. “I’m certainly not going to support anything that is crazy and overzealous.”
But not all CFTC commissioners were convinced, saying that the exchanges have had a great deal of experience on setting position limits.
“I am concerned about what type of organizational structure do we have to have at the CFTC if at the end of the day, we end up setting position limits across the board,” said CFTC’s Michael Dunn.
The exchanges are the best positioned to determine position limits because they know their respective markets, have contacts with the participants and know their trading patterns, said De’Ana Dow, a managing director of government relations for the CME, which owns the New York Mercantile Exchange.
“In terms of the resources and the impact of the commission taking the responsibility of setting position limits, I think it will be a very difficult task,” Dow said.
Currently, exchanges try to prevent manipulation and congestion by imposing limits on energy products in the last three trading days before a contract expires. The exchanges have accountability levels that trigger additional oversight tools, if a position exceeds a certain size.
Jeffrey Sprecher, chief executive of ICE, opposed the CME’s view and instead called for the CFTC to take the reins on position limits.
“The market itself still does not have confidence in what we have done,” Sprecher said.
The CME’s comments came on the same day it provided recommendations for position limits in energy products, including the creation of a “hard” position limit.
“I believe that we should continue to seriously consider the benefits of position limits,” CFTC Chairman Gary Gensler said at Wednesday’s hearing.
There also are efforts by lawmakers in both the House and Senate to impose position limits on commodities such as oil as part of a broader plan to boost market oversight and expand the power of the CFTC.
Some top Wall Street firms have expressed concern that a regulatory crackdown would scare business to foreign exchanges, shrink trading volumes, raise costs for some businesses engaged in hedging and impair market efficiency.
CFTC reform hearings
CFTC to hold joint hearings with the SEC
Source: CFTC/SEC to Hold Joint Meetings on Regulation Harmonization CFTC release, August 20, 2009
Source: Joint meetings on Harmonization of Regulation SEC Release, August 19, 2009
Source: Joint Meeting on Harmonization of Regulation agendas August 31, 2009, SEC and CFTC
The Commodity Futures Trading Commission (CFTC) and the Securities and Exchange Commission (SEC) today announced that the two regulatory agencies will hold joint meetings to seek input from the public on harmonization of market regulation. President Barack Obama in June called on the two regulators to recommend changes to their statutes and regulations that would eliminate differences with respect to similar types of financial instruments.
The first meeting, on September 2, 2009, will be held at the CFTC, and the second meeting, on September 3, 2009, will be held at the SEC.
CFTC - SEC joint hearings meeting notes.
CFTC to Hold Three Open Hearings to Discuss Energy Position Limits and Hedge Exemptions
Third hearing August 5, 2009
Testimony and statements
- Chairman Gary Gensler’s Opening Statement
- Commissioner Michael V. Dunn
- Commissioner Bart Chilton
- John Hyland, Chief Investment Officer, United States Commodity Funds LLC
- Paul N. Cicio, Industrial Energy Consumers of America
- Steven Graham, American Trucking Associations, Inc.
- John D. Arnold, Managing Partner, Centaurus Advisors, LLC
- Elliot Chambers, Chesapeake Energy Corporation’s Corporate Finance Manager
- Philip K. Verleger, Jr., Haskayne School of Management, University of Calgary, PKVerleger LLC
- Michael W. Masters, Managing Member/Portfolio Manager, masters Capital Management, LLC
- Mark D. Young, Kirkland & Ellis LLP
- Michael Greenberger, Law School Professor, University of Maryland School of Law
Second hearing July 29, 2009
The Commodity Futures Trading Commission (CFTC) today announced the participants for the second of three hearings to address the current application of position limits and exemptions from position limits in energy markets. The hearing is scheduled to be held between 9:00 a.m. EDT and 1:00 p.m. EDT on Wednesday, July 29.
The second hearing consisted of testimony by:
- Blythe Masters, JP Morgan
- Dr. Henry Jarecki, Gresham Investment Management
- Don Casturo, Goldman Sachs
- Tyson Slocum, Public Citizen
- John Lothian, John J. Lothian and Company, Inc.
- Peter Krenkel, Natural Gas Exchange
- Dennis Gartman, The Gartman Letter
- Adam Felesky, BetaPro Management
The CFTC will hold its third hearing on Wednesday, August 5.
First Hearing July 28, 2009
The first hearing consisted of testimony by:
- Senator Bernie Sanders
- Congressman Bart Stupak;
- CFTC staff presentations and two witness panels:
- Jeff Sprecher, Intercontinental Exchange
- Terry Duffy, Chicago Mercantile Exchange
- Petzel, Futures Industry Association;
- Ben Hirst, Delta Airlines;
- Laura Campbell, American Public Gas Association; *
- Sean Cota, Petroleum Marketers Association of America
“The CFTC is directed by statute and provided with broad authorities to ensure the fair, open and efficient functioning of futures markets,” CFTC Chairman Gary Gensler said. “While the CFTC currently sets and ensures adherence to federal position limits for certain agriculture products, the agency does not do the same for energy markets. Our hearings, beginning next week, will be critical as we look into different approaches to regulate energy markets. I look forward to hearing from our panelists as we consider applying position limits to energy markets.
“Though we are initially focused on energy, the Commission intends to further review other commodities of finite supply in future hearings.”
The Commodity Exchange Act states that the Commission shall impose limits on trading and positions as necessary to eliminate, diminish or prevent the undue burdens on interstate commerce that may result from excessive speculation. The CFTC’s hearings are intended to examine the role of position limits in energy markets in fulfilling the CFTC’s mission.
As such, the Commission has scheduled three hearings to receive the views from a wide-range of industry participants and academics on the following:
- 1.Applying position limits consistently across all markets and participants, including index traders, managers of Exchange Traded Funds, and issues of Exchange Traded Notes;
- 2. The effect of position limits on market function, integrity and efficiency;
- 3. The effect of position limits on facilitating the risk management of clearinghouses;
- 4. Whether the CFTC needs additional authority to implement such limits;
- 5. What methodology the Commission should use to determine position limit levels for each market.
- What quantitative measures should be used in setting limits on the size of an individual trader’s position?
- Should limits be established by percentage or proportion of the open interest of the market or by fixed number of allowed contracts?
- Should limits apply in all months combined, in individual months, and in the delivery month?
- How should spread trades be incorporated in this calculation?
- 6. Should the Commission limit the aggregate positions held by one person across different markets?
- 7. Should exemptions from position limits be permitted for anyone other than bona fide hedgers for the conduct and management of a commercial enterprise?
- The statute states exemptions should only be granted to bona fide hedgers. What should the qualifying factors be for an entity to meet the definition of a bona fide hedger?
- 8. Finally, if you believe the Commission should not set position limits on energy contracts, please address the inconsistent approach for other commodities with a finite, physically deliverable supply, such as certain agriculture commodities.
Setting position limits
source: CFTC Looks Ready for Limits WSJ, August 6, 2009
"The Commodity Futures Trading Commission appears set on imposing hard limits on speculators in energy markets, though the agency's leadership dropped few hints about what form the caps would take during a third and final day of hearings in Washington.
GARY GENSLER In the past week, the CFTC has heard from 23 participants from every corner of the derivatives world, most favoring position limits in some form. Supporters now include several powerful entities once ambiguous or opposed to limits, such as exchange operator CME Group Inc. and Goldman Sachs Group Inc.
Currently, the New York Mercantile Exchange sets position limits only in the days before a contract expires and grants exemptions to dozens of companies.
CFTC Chairman Gary Gensler was confirmed by Congress this year amid calls from lawmakers and companies that produce and consume commodities to rein in speculators, often defined as funds that don't take physical delivery of the commodity, whom they blame for volatile prices in recent years.
The CFTC has settled on position limits as the solution, since trading caps already fall under the agency's authority, and can be selectively applied to companies deemed speculators.
The CFTC may issue a draft rule this fall, Mr. Gensler said. Once the draft is laid out, it will be open for a 60-day public-comment period before formal rules are put in place.
The commission is clearly moving toward federal position limits, but hedge exemptions are a dicey subject: It would be highly problematic for the CFTC to unilaterally reverse hedge exemptions that are in place. Traders who currently have exemptions would be damaged if the market knows the exemptions are pulled, said Gregory Mocek, a partner at McDermott, Will & Emery LLP.
John Hyland, chief investment officer of U.S. Oil Fund and U.S. Natural Gas Fund, called current limits "sufficient." The two exchange-traded funds pool shareholders' investments to buy futures and have at times controlled a significant portion of open positions."
- Source: CFTC Chief Gains Support for Oil Trading Curbs WSJ, July 30, 2009
" Commodity Futures Trading Commission Chairman Gary Gensler sounded even more convinced Wednesday that trading limits must be imposed on speculative energy traders -- and he found support from two of the biggest financial players in commodities markets.
"No longer must we debate the issue of whether or not to set position limits," Mr. Gensler said during the second day his agency is holding hearings on excessive speculation in the energy markets.
"There are three important questions that do remain:
- Who should set position limits?
- Who should be exempted from position limits?
- And at what level should position limits be set?"
Speculative traders have been blamed by some critics for causing record run-ups in oil prices last summer. Critics have particularly targeted financial investors like pension or endowment funds, which seek exposure to commodities to diversify their portfolios without actually purchasing futures contracts. These types of investors pour their money into commodity-linked index products offered by big swap dealers like Goldman Sachs Group Inc. The banks in turn then directly purchase futures contracts that make up the index.
Banks engaged in this type of business have been able to obtain exemptions over the years from exchange trading limits to hedge their business risks.
In addition to looking at position limits, the CFTC is also looking to possibly scale back these kinds of exemptions for big banks, index traders and possibly others.
At Tuesday's hearings, executives from two exchanges appeared willing to accept new regulations on energy markets, with CME Group Inc. Chief Executive Craig Donohue telling regulators he is willing to impose hard limits on energy trading.
Support for some new limits was also echoed Wednesday by big swap dealers Goldman Sachs and J.P. Morgan Chase & Co. The banks testified that they support imposing position limits on both exchange and over-the-counter trading, but those should apply to "end-users" like pension funds, and not directly to the banks. The banks, they said, should still be free to trade on exchanges to reduce their own exposure so long as their customers are also exempt.
For example, a bank acting as a swap dealer for an airline would be exempt from position limits, because it is acting on behalf of a company that uses a physical commodity.
The bank would also be exempt if it trades on the exchange as part of a swap with a pension fund that had yet to exceed its position limit. But once the customer maxes out, the bank would not be able to receive any further exemptions if the two continue to trade.
The CFTC since last year has been collecting information from swap dealers to glean more information about how many positions are held by banks' over-the-counter trading partners.
A report with that data was issued for the first time last year, and the report concluded there was no evidence that these index traders were driving up prices with excessive speculation.
The CFTC has continued to collect the information and will be issuing regular reports every quarter. The first one is due out in August.
CFTC Commissioner Bart Chilton, a Democrat, reiterated statements he made earlier this week that he still believes the data in that first report released last year were faulty and CFTC staff did not have enough time for analysis.
He said when this latest report is released, he is "confident it will be a much better report."
- Source: Ice-y tactics in commodities FT Alphaville, July 29, 2009
"Aggregate position limits should be set by the CFTC in a transparent fashion and updated regularly. Position limits should be set according to market size to prevent manipulation and delivery disruptions, not to influence commodity price levels. In determining position limits or accountability levels, the CFTC should consider the entire size of the energy market in question — both exchange and OTC. While the feasibility or necessity of OTC position limits is not the subject of this hearing, it is clear that the Commission has the authority to collect data on the OTC markets. Failing to accurately assess market size in setting position limits, accountability levels and appropriate exemptions will likely result in artificially low limits, creating barriers to a well-functioning, centrally cleared and regulated derivatives market and keeping positions in the opaque OTC markets."
Let us also consider the other major significant development in commodity markets the last few years: the rise of electronic trading. ICE was among the key innovators in this area.
In a world where technology and algorithms can give you an immediate advantage there’s a huge incentive in electronic-izing OTC order flow. Bring it on exchange and the algos can work their magic for those who can afford the software development costs.
OTC bilateral trade is traditionally conducted via brokers or directly by phone, email or Yahoo messenger. Platts, the OTC price-discovery agency, assesses the market by encouraging traders to submit to them deals, bids and offers during a specific half-hour time frame known as ‘the window’. Only these numbers are then considered for the compilation of the daily Platts benchmark — used by the market for the pricing of swaps and other contracts. The incentive to comply exists in the fact that market participants want to contribute towards the makings of a fair benchmark. If you don’t participate, the benchmark risks being hugely off-market.
But there has always been scope for manipulation. By trading at completely different prices inside the window versus those outside, large players can move the benchmark to their advantage, meaning it is no longer indicative of the market.
Accordingly, when Platts and ICE announced they had joined forces to begin conducting the window in certain contracts electronically over ICE screens, the market responded favourably. On ICE screens, increased transparency comes in the fact that market participants have more prices openly to compare, while Platts simply has more prices to consider. Platts, meanwhile, describes its relationship with ICE thus:
The new online-based assessment window will be just for the price assessment process by Platts and will be independent from ICE, Platts said.
And while that’s all very lovely, the point here is that the OTC market risks becoming a two-tier system: one market conducted electronically for the purpose of the window — which contributes to the formation of benchmark prices zapped through blackboxes at a moment’s notice — and the other, conducted as usual off-exchange and out of sight of the regulators.
Those who have an understanding and influence over both, meanwhile, clearly have most to gain. And it’s understandable too why they might want to keep the ‘uninformed money’ in one specific section only."
JP Morgan predicts investors will flee regulated markets
Source: Goldman Says Curbing Speculators May Disrupt Markets Bloomberg, July 29, 2009
"July 29 (Bloomberg) -- Goldman Sachs Group Inc., the bank that makes the most money from commodities, fixed-income and currency trading, said attempts to curb speculation may be “disruptive” to energy markets.
“The role that is played by non-traditional participants such as index investors and other financial participants often has been mischaracterized,” Don Casturo, a Goldman Sachs managing director, said today at a Commodity Futures Trading Commission hearing in Washington.
The testimony was part of the second day of hearings on excessive market speculation and how to respond. CFTC Chairman Gary Gensler, a former Goldman Sachs employee, said today the commission “is hearing support” for position limits in energy markets after crude oil futures rose to a record $147.27 a barrel in 2008 on the New York Mercantile Exchange.
“It’s more a question of how than whether,” to establish new limits, he said. Gensler has been chairman of the commission since May and was a former managing director at Goldman Sachs, which set a Wall Street earnings record in the second quarter.
Blythe Masters, head of the global commodities group at New York-based JPMorgan Chase & Co., said the CFTC should set “a speculative position limit” that looks at individual entities’ net positions, instead of regulating the banks that facilitate trading. She said putting limits on the “end user” would capture trading across all markets, including over-the-counter.
‘We Will Go’
Restricting the size of aggregators like JPMorgan will drive investors to other markets and investments, Masters said.
“This is not a threat that if you do this, we will go there,” she said. “It’s a prediction.”
Casturo agreed that banks should be excluded from strict limits while acting on behalf of customers. Such a distinction may exempt index funds and exchange-traded products from limits, applying those limits instead to the investor in the funds.
“They believe it’s appropriate to set position limits, but they’d like to be exempt from them,” Gensler told reporters after the meeting. “There may be a difference of view on that.”
Masters also said standardized OTC derivatives contracts “between systemically significant financial institutions” should be required to go through a regulated clearinghouse.
Goldman and Morgan
Goldman Sachs and Morgan Stanley are the dominant banks in trading commodities. The two New York-based banks accounted for half of the $15 billion of revenue that the world’s 10 largest banks generated from commodities in 2007, according to an estimate from Ethan Ravage, a financial-services industry consultant in San Francisco.
Goldman Sachs doesn’t disclose how much of its revenue comes from commodities. The business is part of its fixed- income, currencies and commodities division that generated a record $6.8 billion in the second quarter of 2009.
Gensler worked at Goldman Sachs for 18 years, leaving the company after becoming co-head of finance. In 1997, he joined the U.S. Treasury Department under Robert Rubin, another former Goldman Sachs employee.
Casturo said increased participation in commodity markets by financial investors has helped liquidity and improved price discovery.
“Some of the courses of action that have been proposed not only will fail to address the perceived harms but also will have unintended consequences that may be disruptive to liquidity and the markets generally,” said Casturo, who is responsible for risk management at Goldman Sachs’s commodity index business.
Tyson Slocum, the director of energy programs for consumer advocacy group Public Citizen, said today that financial firms like Goldman Sachs and JPMorgan are simply “taking full advantage of the lack of regulatory oversight over their operations to maximize market power and control information.”
Slocum called for aggregate position limits across all energy markets, and recommended the agency use emergency powers to require all standardized over-the-counter contracts clear through a CFTC-regulated exchange.
Position limits “will be a reality,” Slocum said in a Bloomberg Television interview before entering the hearing. Gensler said there was a consensus that limits are needed, leaving the commission to answer three questions: What the limits will be, who will set and monitor the limits, and who will be exempt from limits and under what conditions.
Any position limits would have to “consider producer and consumer hedge ratios, the size of the physical commodity market and size of the futures market,” Casturo said.
‘This Isn’t Political’
Gensler also rejected comments by Henry Jarecki, chairman of Gresham Investment Management, that the commission may be acting just to be seen as regulating when commodity prices rise. Jarecki likened the agency’s action to a doctor that gives his patient “large and colorful” pills to be seen as fighting a disease.
“This isn’t political,” Gensler said.
The chairman said the commission so far has heard “a very real need to consider the over-the-counter derivatives marketplace to bring reform to that marketplace.” The agency would need new authority to expand its oversight of OTC markets.
“It gives me personally a renewed vigor to work with Congress to get that done,” Gensler said.
The final day of hearings will take place Aug. 5.
Source: Presenting, the ‘physical loophole’ FT Alphaville, July 29, 2009
"First there was the London loophole. Now, it appears, the development of another entirely new loophole is underway. Let’s call it the physical loophole.
From Intercontinental Exchange CEO Jeffrey Sprecher’s Tuesday testimony to the CFTC on the matter of position limits and the influence of speculators on the price of commodities:
ICE offers the following recommendations to the Commission regarding the application of position limits, accountability levels, and hedge exemptions in energy derivatives markets:
- 1. That any aggregate system of position limits, accountability levels and hedge exemptions should be set and administered by the CFTC;
- 2. That any position limits and accountability levels should be determined by the CFTC using market neutral and transparent methodologies and in a manner to preserve competition;
- 3. That financially settled contracts and physically deliverable contracts should be treated differently in any revised regime; and
- 4. That the CFTC should maintain the distinction between expiration month position limits and future month accountability levels.
And specifically on the matter of physicality:
In determining final month position limits, the CFTC should delineate between financially settled and physically deliverable contracts. Currently, the CFTC is encouraging exchanges to adopt hard position limits for financially settled contracts that are equal to the position limits for physically deliverable contracts.
Any position limit regime should closely examine this practice, as market participants use the physical and financial markets for different purposes. Imposing limits on cash-settled products is problematic for those trying to hedge the settlement price and may create a convergence problem. The energy market created an OTC financially settled WTI swap contract, specifically to allow hedgers, who reference CME’s WTI futures settlement price in their physical contracts, to hedge the expiration price of the WTI futures contract.
Without such a mechanism, it is impossible to hedge the final futures settlement price, as holders of the futures contract receive physical oil at expiration — not dollars. ICE recognized the need for hedging CME’s price and listed this financial contract on its energy futures exchange. The CME and a number of other exchanges and trading platforms have followed suit and such contract has found widespread adoption among commercial market participants.
If the Commission’s regulatory concern is arbitrage between the physical and financial contracts, then a simple solution may be to allow large positions to be held in the financially-settled contract to facilitate perfect hedging of the final settlement price, but prohibit holders of such large positions from trading in the physically-settled futures contract market during the crucial settlement period, when physical players, with positions below the hard position limits in the final trading days, would determine the expiration settlement price. Such a rule would promote contract convergence and eliminate the need for the significant number of hedge exemptions that exist in the energy futures market.
So that means, under Sprecher’s proposition, that those operating in the physical domain would pretty much have the final say on determining the expiration settlement price. Holders of the financial-contract would see their positions “converge” to the physical.
Now, if you believe price distortion is coming into the market via financial speculators, then that is indeed a very nifty solution — although not much different to how things are now. However, if you’re more inclined to believe the price distortion is coming from the physical side — as market commentators like Chris Cook, former head of compliance at the International Petroleum Exchange maintain, have suggested — then that provides for yet more influence of physical players via the OTC market.
This is also quite convenient for those who are both physical and financial operators in the market, those like Goldman Sachs, Morgan Stanley and soon to be physically positioned GLG Partners.
While it’s only right that the physical market should drive the financial derivative market, there is one issue.
Ever decreasing volumes in benchmark grades like Brent BFOE– which go on to influence the price of WTI via spreads — present a very small clique of physical traders with the opportunity to have a somewhat distorting effect on oil prices around the world."
- Source: Call to Curb Speculators in Energy New York Times, July 28, 2009
WASHINGTON — The country’s top regulator of commodity markets said Tuesday that the government should “seriously consider” strict limits on the trades of purely financial investors in the futures markets for oil, natural gas and other energy products.
Opening the first of three hearings on proposals to curb speculative trading and reduce volatile price swings in oil and gas, the chairman of the Commodity Futures Trading Commission made it clear that he favored tighter volume limits on noncommercial traders — banks, hedge funds and other financial institutions — that account for a big share of trading in energy contracts.
“The C.F.T.C. is in the best position to apply limits across different exchanges, and we are most able to strike a balance between competing interests and the responsibility to protect the American public,” the commission chairman, Gary Gensler, said. “I believe we must seriously consider setting strict position limits in the energy markets.”
- Source: CFTC Chairman Gensler talks about todays hearing Bloomberg News video (running time ~ 5 minutes
- Source: Gensler Pushes for Trading Curb WSJ, July 28, 2009
- Source: CFTC set to curb price spikes in commodities Financial Times, July 27 2009
"The US commodity markets watchdog is due to begin hearings on proposals that could curb energy and commodities trading and hit the business of futures exchanges and Wall Street banks.
Starting on Tuesday, the Commodity Futures Trading Commission will take testimony on two controversial ideas its new leaders think could avert price spikes in oil and other commodities. One would limit how many futures contracts traders can hold, while another would reconsider exemptions from less stringent limits currently imposed by exchanges, which many Wall Street banks enjoy.
While the banks are likely to fight hard to maintain their exemptions, they are also likely to give ground on the positions limits, people familiar with the matter say.
Depending on how tightly the commission draws limits, the moves could dramatically redefine where and by whom oil and other commodities are traded.
It is unclear whether regulators in London, home to the world’s second largest oil exchange and the largest base metals bourse, will go along with these changes.
- Source: CFTC Points Finger, Traders Balk July 28, 2009, Mock the Market blog
"The Chairman of the Commodity Futures Trading Commission (CFTC) is talking tough about instituting trading curbs on energy contracts. Gary Gensler, the new CFTC chairman as of May, is pulling an abrupt about-face from the previous administration's stance, which was very hands-off and pro-trader. Mr. Gensler believes that speculation by index investors contributed to massive volatility in the price of oil last year. The CFTC plans to issue a report next month suggesting that speculators played a significant role in driving wild price swings in the price of oil, which is a reversal of the findings of the CFTC last year, which claimed that it was purely supply and demand driving the prices swings. The UK's regulator, the FSA, has also cleared speculators of any responsibility for excessive oil price volatility. Who's right? The truth is probably somewhere in between.
What began as a spike in oil prices based on fundamentals, turned into a pile-on of endowments, pensions and other investors looking to get in on the action as a hedge against inflation, or just a bet on something that was going higher. When $300 billion enters a market via new index products, as it did over the course of a few years, it is bound to drive up the price. Whether these folks should be allowed to play in the market is entirely a matter of interpretation. The previous administration believed that everyone was allowed to the party, while the current administration wants to break the party up. The fact that the price of oil is such a major determinant in economic growth is not something that this administration is taking lightly. While the prior administration's laissez-faire attitude may be reflected on wistfully by energy traders, at least the CFTC's tough stance doesn't involve invading any countries. Like I said, it's all a matter of interpretation."
S. 1225 Energy Market Manipulation Prevention Act
A bill to require the Commodity Futures Trading Commission to take certain actions to prevent the manipulation of energy markets, and for other purposes.
SEC. 2. ENERGY MARKET MANIPULATION PREVENTION.
- (a) Findings- Congress finds that--
- (1) in 1974, the Commodity Futures Trading Commission (referred to in this Act as the ‘Commission’) was established as an independent agency with a mandate--
- (A) to enforce and administer the Commodity Exchange Act (7 U.S.C. 1 et seq.);
- (B) to ensure market integrity;
- (C) to protect market users from fraud and abusive trading practices; and
- (D) to prevent and prosecute manipulation of the price of any covered commodity in interstate commerce;
- (2) Congress has given the Commission authority under the Commodity Exchange Act (7 U.S.C. 1 et seq.) to take necessary actions to address market emergencies;
- (3) the Commission may use the emergency authority of the Commission with respect to any major market disturbance that prevents the market from accurately reflecting the forces of supply and demand for a covered commodity;
- (4) in section 4a(a) of the Commodity Exchange Act (7 U.S.C. 6a(a)), Congress has declared that excessive speculation imposes an undue and unnecessary burden on interstate commerce;
- (5) in May 2009, crude oil inventories in the United States were at the highest level of crude oil inventories on record;
- (6) in May 2009, demand for oil in the United States dropped to the lowest level of demand in more than a decade;
- (7) the national average price of a gallon of gasoline has jumped from $1.64 per gallon in late December of 2008 to over $2.61 per gallon as of June 8, 2009;
- (8) crude oil prices have increased by over 70 percent since the middle of January 2009; and
- (9) in May 2009, the International Energy Agency predicted that global demand for oil will decrease in 2009 to the lowest level of demand since 1981
- (1) in 1974, the Commodity Futures Trading Commission (referred to in this Act as the ‘Commission’) was established as an independent agency with a mandate--
HR 2448, Prevent Unfair Manipulation of Prices Act of 2009
Source: Prevent Unfair Manipulation of Prices Act of 2009 Sponsor: Rep. Bart Stupak [D, MI-1] and 18 Co-Sponsors
To provide for regulation of futures transactions involving energy commodities, to regulate credit default swaps, to strengthen the enforcement authorities of the Federal Energy Regulatory Commission under the Natural Gas Act,Natural Gas Policy Act of 1978, and the Federal Power Act, and for other purposes.
SEC. 2. TABLE OF CONTENTS.
The table of contents of this Act is as follows:
- Sec. 1. Short title.
- Sec. 2. Table of contents.
- Sec. 3. Regulation of certain transactions in derivatives involving energy commodities.
- Sec. 4. No effect on authority of the Federal Energy Regulatory Commission.
- Sec. 5. Inspector general of the Commodity Futures Trading Commission.
- Sec. 6. Settlement and clearing through registered derivatives clearing organizations.
- Sec. 7. Limitation on eligibility to purchase a credit default swap.
- Sec. 8. Transaction fees.
- Sec. 9. No effect on authority of the Federal Trade Commission.
- Sec. 10. Cease-and-desist authority.
- Sec. 11. Natural Gas Act refunds.
- Sec. 12. Regulation of carbon derivatives markets.
CME proposes energy position limits
- Source: CME proposes energy position limits Reuters, September 16, 2009
CME Group, the giant Chicago-based operator of derivatives exchanges, would impose new position limits on NYMEX energy contracts in response to a push by U.S. regulators for renewed scrutiny in energy trading, CEO Craig Donohue said in an interview Wednesday.
CME would apply the limits, laid out in a CME White Paper released Wednesday, as long as regulators agree to enforce limits in venues where commodities are traded around the world, and extend them to include over-the-counter commodities swap contracts as well, Donohue said.
He also said exchanges should be allowed to extend hedging exemptions for traders who need to exceed the position limits.
A push by U.S. government regulators to impose tighter position limits in U.S. energy markets may send investment flows offshore or prompt investors to take money out of commodities futures in regulated exchanges, such as those CME operates, Donohue warned.
“Market participants are already beginning to use alternatives. Energy market participants are now using more swap contracts, and we’re seeing a large number of reports about new securities giving investors exposure to commodities without accessing futures markets,” he said.
Dresdner/Commerzbank blames oil speculators
Source: Dresdner/Commerzbank blames oil speculators FT Alphaville, August 21, 2009
"...In the commodities market it is well worth going against the flow in order to recognise the important turning points. We were virtually alone in our opinion that last year’s oil price rise was mainly due to actions of financial investors. The market, on the other hand, attributed the price rise to structural changes both on the demand side, with the increasing role of emerging countries, and on the supply side with the “peak oil” theory.
Our view that a speculative bubble had formed in the oil market proved correct when it burst with spectacular effect after the price had risen to around USD 150 (chart 1). When the price subsequently nose-dived to around USD 30 per barrel in Q4 2008, we interpreted this as an exaggerated reaction, after many investors simply fled the oil market. This year we anticipated stabilisation of physical demand and normalisation and recovery of equilibrium in the oil futures markets, and were one of the few banks to predict — right at the beginning of the year — that crude oil prices would rise to USD 70-75 per barrel by year-end...
...Fundamental changes were not so much the cause, rather the rise was due mainly to the greater risk appetite among financial investors, optimistic expectations and increased liquidity. This is also supported by the higher correlation between the oil price and the equity and currency markets....
We are often asked this question and there is no clear answer. Even if we only consider the contracts outstanding on the commodity futures exchanges, it is virtually impossible to say how many of these are held by non-commercial traders. This statistic is hard to pin down in view of the numerous exemption permits for dealers and financial institutions who both handle physical trades and speculate in commodity investments. The so-called COT data of the CFTC, which breaks down traders into speculators and physical traders, is therefore misleading. Statistics concerning the positioning of investors in relation to non-regulated OTC commodities transactions are almost entirely non-existent.
Another method of determining the proportion of speculators in the market, based on comparisons according to the principle of “where would the price be if there were no financial investors in the market?”, is also somewhat wide of the mark.
Admittedly the comparison is a legitimate one, and relatively easy to determine if, for example, one compares historic changes in the reach of the world crude inventory in days over time or the free production capacity of OPEC with the corresponding oil price.
It is clear that one could explain many past price changes on the basis of these factors. However, the price of a commodity does not always necessarily correspond to the current supply and demand situation.
The greatest advantage of exposure of financial players and speculators to the commodity markets that we can see, apart from representative and liquid pricing, is their ability to process and act on available information quickly and efficiently. So ideally, speculators should iron out the hugely exaggerated upward or downward price movements.
They should buy when physical demand is very low but about to recover, and sell in the opposite situation. However, the financial markets and financial market players have utterly failed in this role.
Instead, it is our opinion that in recent years, because they drew the wrong conclusions and over-invested, they caused a speculative bubble in commodities, particularly in the oil market. Rather than profiting from existing trends, investors greatly accelerated and to some extent caused those trends. It was precisely their clumsy dealing that, in our view, made the exaggerated upward and downward price swings possible in the first place. The problem is that commodity investors exert far more influence on the market than physical traders. On the one hand, investors exert their influence through regular rolling of commodity futures. On the other hand, one needs to consider the leverage made possible by futures market trading. To purchase a WTI contract on the NYMEX usually requires less than 8% of the value of 1000 barrels of the crude oil which it represents.
But the key thing to understand is that the commodity futures exchanges were not really in a position to absorb investments of billions of dollars. In our opinion these investments damaged the existing pricing system, upset “normal” trading and allowed it to run out of control. The relationship between the physical market and “virtual” stock market trading has gone off the rails. Between the years 2003 and 2008 both WTI oil price and the number of outstanding WTI contracts (futures and options) on the NYMEX have gone up six-fold. This was at least partially responsible for the massive price increase in the last years (chart 6).
When WTI futures were introduced on the NYMEX in the mid-1980s, production of the US domestic crudes which were chosen as a “good delivery” for the benchmark and were available for delivery in Cushing, Oklahoma stood at around 1.5m barrels of crude oil per day. The total trading volume of WTI on the NYMEX averaged the equivalent of about 10m barrels.
The relationship was therefore largely satisfactory because WTI was also accepted as the benchmark for all trading both inside and outside the USA, as it still is today. In the 1980s demand for oil in the USA alone stood at 16-17m barrels per day. However, as investors increased their exposure, the relationship changed utterly. Today, on the NYMEX alone, WTI futures worth the equivalent of 600m barrels of crude oil are traded daily, while US production is less than 5m barrels per day.
Even compared with global demand for oil, which currently stands at around 83m barrels per day, there is a huge discrepancy. This becomes clearest when we compare the volume of WTI actually produced with market trading volume: WTI oil production has now fallen to just 300,000 barrels per day. So now, each barrel of WTI crude is traded on the futures market nearly 2000 times over (Chart 7). It is no wonder that calls are increasingly heard, especially in political circles, for an end to the current “madness”, “casino system” and “oil bubble”. The US regulatory authority for commodity futures trading, the CFTC, now intends to do something about this.
The significant rise in the oil price seen in the first half of the year is due in large part to a recovery in investment by financial investors.
If their influence is reduced by the CFTC’s actions and sanity prevails, the oil price will fall.
We expect some of these measures to be decided very soon, particularly bearing in mind that the political pressure and the desire to combat excessive speculation in the commodities markets, particularly energy markets, is growing strongly not just in the USA but also in government circles in Europe.
As most investors bet on rising prices, their departure would undoubtedly tend to depress prices.
Therefore we now expect the WTI oil price to fall to USD 50 per barrel in Q4 2009, rather than USD 70 as we previously thought. December WTI futures are currently quoted at around USD 75 per barrel.
We have also lowered our forecast of the average WTI oil price in 2010 from USD 75 to just USD 55 per barrel.
Besides the reduced contribution from financial market players, the fundamental data also indicate a slower increase in the oil price due to enormous investories worldwide and plenty of production capacity.
In the absence of geopolitical tensions, there is little danger of an oil shortage in the foreseeable future. Incidentally, we do not believe that all energy will be adversely affected by the new CFTC rules, and US natural gas prices could even benefit from reduced influence by “speculators”.
Reining in energy speculation
Source: U.S. Considers Curbs on Speculative Trading of Oil New York Times, July 8th, 2009
"WASHINGTON — Reacting to the violent swings in oil prices in recent months, federal regulators announced on Tuesday that they were considering new restrictions on “speculative” traders in markets for oil, natural gas and other energy products.
The move is a big departure from the hands-off approach to market regulation of the last two decades. It also highlights a broader shift toward tougher government oversight under President Obama."
Source: Goldman, Morgan Stanley Threatened by CFTC Review Bloomberg, July 8th, 2009
"July 8 (Bloomberg) -- Goldman Sachs Group Inc. and Morgan Stanley may never have the same leeway in commodities as they did when oil reached a record $147 a barrel last year.
The Commodities Futures Trading Commission will consider greater regulation of oil, gas and other energy markets at hearings this month. It plans to review exemptions to trading limits that since the 1990s allowed Goldman and Morgan to build multibillion-dollar ventures in futures, swaps and over-the- counter markets.
“They’re very significant swaps participants, and they’re very significant dealers for over-the-counter swaps in the commodities market,” said Dan Waldman, former general counsel of the CFTC and a senior partner at Arnold & Porter LLP in Washington. “If their ability to do some of that business was limited, they’d have to find other ways to reduce their risk or reduce the size of their commodity swaps books.”
Energy swaps are trades in which parties exchange the difference between two price payments, one fixed and one floating, for a specific commodity for a period of time.
Goldman Sachs and Morgan Stanley accounted for about half of the $15 billion in revenue that the world’s 10 largest investment banks generated from commodities in 2007, Ethan Ravage, a financial-services industry consultant in San Francisco, estimated last year, as energy prices neared records.
Spokesmen for both banks declined to comment, as did one from Barclays Plc. Spokesmen from JPMorgan Chase & Co. and Citigroup Inc. didn’t immediately return calls for comment.
Oil prices almost tripled to a record $147.27 a barrel in July 2008 from less than $50 a barrel in January 2007. It took less than five months for prices to peak after topping $100 a barrel in February 2008. Crude oil for August delivery fell $1.12, or 1.8 percent, yesterday in New York to $62.93 a barrel. That’s up 94 percent from a low of $32.40 in December.
“A lot of what we’ve seen in recent years has nothing to do with the underlying fundamentals of the market,” said Tom Bentz, a senior energy analyst at BNP Paribas Commodity Futures Inc. in New York. “Something has to be done to reduce some of the speculation, no doubt about it.”
Exchanges regulated by the CFTC are allowed to set their own position limits or accountability levels which are designed primarily to keep one party from gaining too much control of a market. The limits are applied to futures that call for actual delivery of the commodity rather than settling in cash."
Commitments of Traders
The Commitments of Traders (COT) reports provide a breakdown of each Tuesday’s open interest for market reports in which 20 or more traders hold positions equal to or above the reporting levels established by the CFTC.
Please see the official Release Schedule for a calendar of release dates.
Reports are available in both a short and long format. The short report shows open interest separately by reportable and nonreportable positions. For reportable positions, additional data is provided for commercial and non-commercial holdings, spreading, changes from the previous report, percents of open interest by category, and numbers of traders.
The long report, in addition to the information in the short report, groups the data by crop year, where appropriate, and shows the concentration of positions held by the largest four and eight traders.
Supplemental reports show aggregate futures and option positions of Noncommercial, Commercial, and Index Traders in 12 selected agricultural commodities.
The Commodity Futures Trading Commission (CFTC) announced on Friday, January 15, 2010, that it will include positions in the IntercontinentalExchange (ICE) Henry Hub natural gas contract in its weekly Commitments of Traders (COT) reports. The announcement is in keeping with the Commission’s efforts to improve the transparency of the markets it oversees by providing additional data to the public. In July 2009, the Commission determined that the ICE contract was a significant price discovery contract or SPDC.1 It was the first ECM contract to be recognized as a SPDC and is the first SPDC to be included in the COT report. The first publication of this data was in the January 12, 2010, COT report, that was released on Friday, January 15, 2010.
1 Under new Commodity Exchange Act provisions added by the Farm Bill in 2008 and CFTC implementing rules adopted in April 2009, Exempt Commercial Markets (ECMs) with SPDCs are subject to self-regulatory and reporting requirements, as well as certain Commission oversight authorities, with respect to those contracts.
The Commodity Futures Trading Commission (CFTC) today announced that it will include positions of ICE Futures Europe exchange traders of West Texas Intermediate Crude Oil contracts in its weekly Commitments of Traders (COT) reports. The announcement is in keeping with a July 7th statement by CFTC Chairman Gary Gensler that the agency would work to improve the transparency of the markets it oversees by providing additional data to the public. The first publication of this data will be in the July 28, 2009 COT report, to be released on Friday, July 31, 2009.
“The CFTC has a responsibility to ensure that our markets are transparent and free from fraud, manipulation and other abuses,” Chairman Gensler said. “I am pleased to announce that we will this week begin fulfilling our commitment to greater transparency by including position data the CFTC receives for foreign contracts linked to the settlement price of domestic contracts. We will also continue our work to improve transparency of markets in other areas by providing additional and more relevant information in our weekly COT reports.”
"Significant price discovery contracts"
- Source: CFTC Determines that Seven Contracts Traded on the IntercontinentalExchange Inc are Significant Price Discovery Contracts CFTC, April 28, 2010
CFTC Determines that Seven Contracts Traded on the IntercontinentalExchange Inc are Significant Price Discovery Contracts
Contracts are Subject to Commission Oversight, Emergency Authority and Large Trader Reporting Requirements
Washington, DC – The Commodity Futures Trading Commission (CFTC) today determined, by a 5-0 vote, that seven contracts traded on the IntercontinentalExchange Inc (ICE) perform significant price discovery functions. As such, the contracts must be traded in compliance with applicable core principles and statutory provisions. The Commission considered a total of 24 contracts traded on three Exempt Commercial Markets (ECMs): ICE, the Natural Gas Exchange, Inc (NGX) and the Chicago Climate Exchange, Inc (CCX). The Commission determined that the other 17 contracts it reviewed were not SPDCs.
ECMs are exempt from the provisions of the Commodity Exchange Act, other than the anti-fraud and anti-manipulation provisions. However, Congress provided a regulatory regime for contracts traded on ECMs that the Commission determines to be significant price discovery contracts (SPDCs) comparable to that provided for futures contracts traded on designated contract markets.
Market data for commodities
- Chicago Board Options Exchange market data
- Chicago Board of Trade market data
- Chicago Mercantile Exchange market data
- ICE "end of day" data
- Kansas City Board of Trade market data
- Minneapolis Grain Exchange market data
- Nadex markets
- New York Mercantile Exchange market data
- OneChicago market data
Primary exchanges monitored
- Chicago Board Options Exchange
- Chicago Board of Trade
- Chicago Mercantile Exchange
- Nadex - North America Derivatives Exchange(formerly Hedgestreet)
- Kansas City Board of Trade
- Minneapolis Grain Exchange
- New York Mercantile Exchange]
Barack Obama has argued that current loopholes in CFTC regulations have contributed to skyrocketing prices and lack of transparency of oil on markets .
On June 25, 2008 Speaker Pelosi sent a letter to President Bush calling on him to direct the Commodity Futures Trading Commission (CFTC) to use its emergency powers to take immediate action to curb excessive speculation in energy markets. They must act to investigate all energy contracts. Despite growing reports of excessive speculation in energy markets, the CFTC has refused to take actions they have taken in the past.
On June 26, 2008 the House passed the Energy Markets Emergency Act of 2008, H.R. 6377. The bill would take crucial steps to curb excessive speculation in the energy futures markets by directing the CFTC to:
- Use all its authority, including its emergency powers, immediately to curb the role of excessive speculation in any contract market trading energy futures or swaps, and
- Use its most potent emergency tools including the immediate powers to set new position limits (size of the stake that each speculative investor can hold in a given market), increase margin requirements (the money needed to trade), and impose other corrective actions as necessary to eliminate excessive speculation, price distortion, sudden or unreasonable fluctuations, or unwarranted changes in the price of energy commodities or other unlawful activity causing major market disturbances that prevent the market from accurately reflecting the forces of supply and demand for energy commodities.
- Testimony of Chairman Alan Greenspan, The regulation of OTC derivatives, Before the Committee on Banking and Financial Services, U.S. House of Representatives, July 24, 1998
- CFTC Annual Report for 2010 CFTC, November 15, 2010
- The FY 2011 President’s Budget & Performance Plan CFTC
- How the CFTC Got Power Wall Street Journal, July 15, 2010
- CFTC to Hold Public Meeting to Consider Significant Price Discovery Contract Determinations CFTC.gov, April 19, 2010
- CFTC Approves Media Derivatives, Inc. Designated Contract Market Application CFTC.gov, April 16, 2010
- Whistleblower Speaks Out On J. P. Morgan's Market Manipulation - Reports Violations to the CFTC Jesse's Cafe, March 26, 2010
- Whistleblower Exposes JP Morgan's Silver Manipulation Scheme ZeroHedge, March 25, 2010
- Testimony of Chairman Gary Gensler Before the House Committee on Agriculture Subcommittee on General Farm Commodities and Risk Management CFTC, March 3, 2010
- Remarks of Chairman Gary Gensler, Over-The-Counter Derivatives Reform Women in Housing and Finance, March 2, 2010
- Commodity Markets Update, FSA, October, 2009
- A new sheriff Sep 3rd 2009, The Economist
- CFTC’s Gensler Sees ‘Clear Consensus’ on Derivatives Regulation Bloomberg, August 27, 2009
- Interview with CFTC Chairman Gensler Bloomberg video (running time 5:00 minutes) August 27, 2009
- Testimony of Chairman Gary Gensler, Commodity Futures Trading Commission Before the Senate Banking Subcommittee on Securities, Insurance, and Investment June 22, 2009
- Statement by Chairman Gary Gensler on Speculative Position Limits and Enhanced Transparency Initiatives Jul 7, 2009
- CFTC and FSA to Enhance Regulatory Cooperation and Cross-Border Surveillance of Oil Markets CFTC press release August 20, 2009
- FSA and CFTC to enhance regulatory cooperation and cross-border surveillance of oil markets FSA release, August 20, 2009
- In defence of energy speculators FT Alphaville, August 5, 2009
- The ICE exchange Recent ICE volume report
- Electronic trading and commodity pricesFT Alphaville, July 27, 2009
- Joint Economic Committee, US Congress, hearing to examine the state of the global energy markets and the impact of sustained high oil prices on the U.S. economy. June 25, 2008
- Government considers limits on trading AP. July 28, 2009