Will Federal Regulators Crack Down on Oil Speculation?

[one...two...tree 2,762]

...arguably the biggest threat to recovery is the price of oil. If oil prices in particular, and commodities in general, begin to rise, those trends will almost certainly constrain demand and consumer confidence at exactly moment it is most needed. This week oil traded at $104.42 a barrel, up 7 percent from last week and at its highest since the September 26, 2008, close at $106.89. And we know from recent experience the oil prices (along with all sorts of other commodities) can skyrocket with little warning. Cast your memory back to the summer of 2008, before the financial crisis and in the heat of the presidential campaign. That summer, oil hit $147 a barrel and gas hit above $4 a gallon; airfare went through the roof and nearly every single major carrier came very close to declaring bankruptcy. Food prices shot up as well, with wheat trading up 137 percent year over year in July 2008, and corn 98 percent. Famine and food riots spread throughout the globe. Though it seems like a distant memory now, for about six weeks during the 2008 presidential campaign during which all anyone talked about was the price of gas. John McCain and Hillary Clinton went so far to advocate for a temporary repeal of the gas tax, Congress held hearings and the Senate actually came close to passing legislation to crack down on oil speculation. And lest we forget, it was in this panic over the rising cost of living that the catchphrase "drill baby drill" was born.

So the White House should not only be worried about oil prices and recovery. They should also be worried about the well-established fact that when price of gas spikes, the country's politics go haywire. FiveThirtyEight's Nate Silver recently showed that high gas prices are correlated with poor incumbent party performance in presidential elections. So not only do rising oil prices present the single greatest substantive policy challenge to a president attempting to cajole the economy into a sustained expansion—it presents the biggest political danger as well.

At first blush you might think that there's not a whole lot the president can do about the price of oil. After all, increase in demand from China and India plus seasonal demand in the United States during peak driving months, combined with the instability in the Middle East, all seem to be pushing the price of oil up and are all outside the White House's control. But that's not the whole story.

In the wake of the price explosion in the summer of 2008, a bubble that extended to all kinds of commodities, including copper and wheat, a number of observers from George Soros to Hedge Fund manager Michael Masters to former Commodities Future Trading Commission staffer and derivatives expert Michael Greenberg concluded that the underlying supply-and-demand fundamentals couldn't account for sharp rise in prices. In the first six months of 2008, US economic output as declining while global supply was increasing. And even if supply and demand were, over the long run, pushing the price of oil up, that alone couldn't explain the massive volatility in the market. Oil cost $65 per barrel in June 2007, $147 a year later, down to $30 in December 2008 and back up to $72 in June 2009.

The culprit, they concluded, was Wall Street speculators.

Commodities markets involve essentially two kinds of participants: there are so-called "end users" like farmers and airlines that use commodities markets as a form of insurance against future price fluctuations, and then there are speculators—hedge funds, investors, big banks that try to make money by correctly betting on those same price fluctuations. The presence of these speculators isn't in and of itself a bad thing; in fact, they bring liquidity that should, in theory, make the market more efficient. According to an analysis by the House Energy Committee's Subcommittee on Oversight and Investigations, in 2000, physical hedgers, trucking companies, farmers, bakers, made up 63 percent of the crude oil futures markets, with speculators accounting for the rest. By 2008, those proportions had basically flipped.

Of course, the Wall Street banks say there's nothing to see here, but that's hard to believe. It's almost impossible to make sense of 2008's massive commodity price spike without concluding that the speculators played an outsized role. When enough money floods into a booming market, Greenberger says it can "unmoor" the prices of commodities from their underlying supply-and-demand fundamentals. The basic mechanism by which this might happen should be familiar; it's the same principle that drove the housing market bubble or the tech stock boom. When a bunch of people think the price of a stock is going to go up, they rush to buy it so they can realize the imminent gains. Of course, a surge of demand itself pushes the price up and the price cycles upwards until it pops. The difference being, no one puts Pets.com in their cars, trucks and airplanes.

"The most conservative thing that can be said right now [is that] this would be no time to dismiss the role that speculation plays," says Greenberger. " A moderate statement is that speculation is creating volatility that is aggravating the uncertainty in the market. If you start talking to industry people, they're pulling their hair out. American Bakers Association is going bananas. They all believe that the markets are going screwy because of Wall Street." A host of businesses and organizations from Virgin's Richard Branson to Oxfam all make the same case.

One way to attempt to constrain these volatile mini-bubbles is for the Commodities Futures Trading Commission to impose "position limits," essentially limits on the size of the bets that speculators can make. The New Deal–era Commodities Exchange Act gives the CFTC power to curb "excessive speculation," and the just-passed Dodd-Frank bill explicitly calls for the CFTC to promulgate position limits.

Not surprisingly, the big Wall Street banks like Goldman Sachs don't want this, and the two Republican members of the commission don't favor any position limits rules with real teeth. To his great credit, CFTC Chairman Gary Gensler (a former Goldman banker I was quite critical of when nominated to the position) has taken a strong leadership position in advocating strong limits, and Democratic commissioner Bart Chilton has been supportive as well. That leaves the deciding vote in the hand of Democratic Commissioner Michael Dunn, who's expressed misgivings.

Now, it just so happens Dunn's term is up in June and last night MSNBC's Ed Show reported that the White House has begun vetting his replacement. This may seem obscure and technical, but given the precariousness of the recovery and political explosiveness of gas prices, nominating a replacement enthusiastic about reigning in excessive speculation may be the single most important decision the White House makes between now and Election Day.

Christopher Hayes

http://www.thenation...oil-speculation

[mawilson 2,133]

Brent Crude - traded in London - is even more expensive than WTI

(West Texas Intermediate) crude traded in New York and Chicago.

Brent spiked to $100+ per barrel while WTI was still trading at $80-85.

If Wall Street is to blame, how do you explain that - or higher oil

prices in Canada (Western Canadian Select) or Russia?

[Usui Takumi 1,562]

Brent Crude - traded in London - is even more expensive than WTI

(West Texas Intermediate) crude traded in New York and Chicago.

Brent spiked to $100+ per barrel while WTI was still trading at $80-85.

If Wall Street is to blame, how do you explain that - or higher oil

prices in Canada (Western Canadian Select) or Russia?

You can't really.

[one...two...tree 2,762]

from 60 Minutes:

To understand what happened to the price of oil, you first have to understand the way it's traded. For years it has been bought and sold on something called the commodities futures market. At the New York Mercantile Exchange, it's traded alongside cotton and coffee, copper and steel by brokers who buy and sell contracts to deliver those goods at a certain price at some date in the future.

It was created so that farmers could gauge what their unharvested crops would be worth months in advance, so that factories could lock in the best price for raw materials, and airlines could manage their fuel costs. But more than a year ago those markets started to behave erratically. And when oil doubled to more than $147 a barrel, no one was more suspicious than Dan Gilligan.

As the president of the Petroleum Marketers Association, he represents more than 8,000 retail and wholesale suppliers, everyone from home heating oil companies to gas station owners.

When 60 Minutes talked to him last summer, his members were getting blamed for gouging the public, even though their costs had also gone through the roof. He told Kroft the problem was in the commodities markets, which had been invaded by a new breed of investor.

"Approximately 60 to 70 percent of the oil contracts in the futures markets are now held by speculative entities. Not by companies that need oil, not by the airlines, not by the oil companies. But by investors that are looking to make money from their speculative positions," Gilligan explained.

Gilligan said these investors don't actually take delivery of the oil. "All they do is buy the paper, and hope that they can sell it for more than they paid for it. Before they have to take delivery."

"They're trying to make money on the market for oil?" Kroft asked.

"Absolutely," Gilligan replied. "On the volatility that exists in the market. They make it going up and down."

He says his members in the home heating oil business, like Sean Cota of Bellows Falls, Vt., were the first to notice the effects a few years ago when prices seemed to disconnect from the basic fundamentals of supply and demand. Cota says there was plenty of product at the supply terminals, but the prices kept going up and up.

"We've had three price changes during the day where we pick up products, actually don't know what we paid for it and we'll go out and we'll sell that to the retail customer guessing at what the price was," Cota remembered. "The volatility is being driven by the huge amounts of money and the huge amounts of leverage that is going in to these markets."

About the same time, hedge fund manager Michael Masters reached the same conclusion. Masters' expertise is in tracking the flow of investments into and out of financial markets and he noticed huge amounts of money leaving stocks for commodities and oil futures, most of it going into index funds, betting the price of oil was going to go up.

Asked who was buying this "paper oil," Masters told Kroft, "The California pension fund. Harvard Endowment. Lots of large institutional investors. And, by the way, other investors, hedge funds, Wall Street trading desks were following right behind them, putting money - sovereign wealth funds were putting money in the futures markets as well. So you had all these investors putting money in the futures markets. And that was driving the price up."

In a five year period, Masters said the amount of money institutional investors, hedge funds, and the big Wall Street banks had placed in the commodities markets went from $13 billion to $300 billion. Last year, 27 barrels of crude were being traded every day on the New York Mercantile Exchange for every one barrel of oil that was actually being consumed in the United States.

"We talked to the largest physical trader of crude oil. And they told us that compared to the size of the investment inflows - and remember, this is the largest physical crude oil trader in the United States - they said that we are basically a flea on an elephant, that that's how big these flows were," Masters remembered.

Yet when Congress began holding hearings last summer and asked Wall Street banker Lawrence Eagles of J.P. Morgan what role excessive speculation played in rising oil prices, the answer was little to none. "We believe that high energy prices are fundamentally a result of supply and demand," he said in his testimony.

http://www.cbsnews.com/stories/2009/01/08/60minutes/main4707770.shtml

[Ban Hammer 13,352]

i thought congress was gonna fix this several years ago by making people take possession of the oil before they could sell it again?

[mawilson 2,133]

i thought congress was gonna fix this several years ago by making people take possession of the oil before they could sell it again?

That's generally what happens when you hold a crude oil futures contract past expiration