Comment Text:
10-002
COMMENT
CL-08298
From:
Sent:
To:
Subject:
Attach:
Patty Lovera
Monday, April 26, 2010 9:07 PM
secretary
comment on Federal Speculative Position Limits for Referenced Energy
Contracts and Associated Regulations
Food & Water Watch Speculative Position Limits Comment 4-26-2010.pdf;
ATT00002.htm
Please find attached a comment on Federal Speculative Position Limits for Referenced Energy
Contracts and Associated Regulations from Food & Water Watch. Thank you for your consideration of
these comments.April 26, 2010
David Stawick
Secretary of the Commission
Commodity Futures Trading Commission
Three Lafayette Center
1155 21
st
Street NW
Washington, DC 20581
Re: Federal Speculative Position Limits for Referenced Energy Contracts and Associated
Regulations
Transmitted electronically: secreta~
Dear Mr. Stawick:
On behalf of the non-profit consumer organization Food & Water Watch, I respectfully
submit the following comments on the Commodity Futures Trading Commission notice
of proposed rulemaking on Federal Speculative Position Limits for Referenced Energy
Contracts and Associated Regulations (75 Fed. Reg. 16 4144-4172). Food & Water
Watch commends the Commission for promulgating fair, sensible safeguards to reduce
the impact that excess speculation can have on prices, volatility, price discovery and the
ability of legitimate,
bonafide
commercial commodity futures traders to manage their
business risks.
The proposed rule takes important first steps toward ensuring that commodity futures
markets are not distorted by excessive speculation, part of the core mission of U.S.
commodity market regulators for the past 75 years. Over the past several years, the role
of excess speculation in contributing to rising energy prices and price volatility has been
documented by numerous academic studies.1
Strong Position Limits Necessary to Prevent Excess Speculation
Over the past decade, the total volume of commodity futures trading increased more than
five-fold.
2
The number of futures and futures options contracts for all commodities
(including oil and metals) traded on regulated exchanges grew from 630 million contracts
1 See,
for example, Eckaus, R.S. Massachusetts Institute of Technology Center for Energy and
Environmental Policy Research. "The oil price bubble really is a speculative bubble." June 2008; United
Nations Conference on Trade and Development. "The Global Economic Crisis: Systemic Failures and
Multilateral Remedies." UNCTAD/GDS/2009/1. 2009.
2 74 Fed. Reg. 12285.in 1998 to 3.75 billion contracts in July
2008.
3
Much of the increase in commodities
futures trading was the result of Wall Street investors rather than commercial firms
hedging their risk. Preventing excess speculation in energy commodities helps consumers
at the gasoline pump and with their home heating bills. But energy is a considerable cost
for farmers, food processors, food distributors and grocery retailers, so high energy prices
driven by speculation can hurt consumers at the supermarket as well. In 2008, retail food
prices rose by nearly 7 percent, the highest rate of food inflation since
1980.
4
While Food & Water Watch commends the Commission for establishing position limits
for energy commodities, it is important that position limits be strong enough to actually
prevent excess speculation from distorting the commodities markets. Position limits set a
cap on the number of agricultural futures contracts (either a buy or a sell position) a
commodities trader can take. These limits were designed to keep investors without an
interest in the physical commodity from dominating the marketplace, without limiting
necessary trading by grain elevators, food processors and meatpackers. Speculative
position limits were first established in 1936 to prevent excess speculation from creating
extreme volatility in agricultural prices,
s
Position limits currently are applied to corn,
wheat, oats, cotton, soybeans, soybean oil and soybean meal.
6
Expanding the use of
mandated position limits to energy contracts can reduce excess speculation, price
escalation and volatility in the energy sector. The Commission should develop additional
position limits for other "soft" agricultural commodity contracts like cocoa and coffee to
prevent these commodities from becoming the final market for excess speculative
investment.
Food & Water Watch concurs with many observers that the position limits proposed by
the Commission may be too high and recommends that the Commission reduce the limits
for non-commercial investors.
Exemptions from Position Limits Should be Narrow and Limited to Bona Fide
Commercial Traders
Additionally, Food & Water Watch supports efforts to close the exemptions to position
limits that have been built up over the past two decades. Before the mid-1980s,
commodity traders were divided between commercial traders that had a physical
interaction with the commodity they were trading -- baking companies buying wheat or
farmers selling it -- or non-commercial traders that had no interest in the physical
commodity but provided liquidity by taking the opposite position to the commercial
traders -- buying grain futures from elevators and selling contracts to food processors,
for example.
7
Most of these non-commercial speculators in commodity markets were
3 Commodity Futures Trading Commission. "Staff Report on Commodity Swap Dealers & Index Traders
with Commission Recommendations." September 2008 at 8.
4 U.S. Bureau of Labor Statistics. "Consumer Price Index: December 2008." January 16, 2009 at 2.
5 74 Fed. Reg. 12283.
6 Ibid.
7 CFTC 2008 at 8.once smaller agricultural futures traders that had knowledge of agriculture and the grain
marketplace.
8
Non-commercial traders were subject to limits on the number of contract positions they
could legally take on the regulated futures markets. Between the early 1990s and the
2008 food crisis, the Commission blurred the distinction between those with a physical
interest in the commodity and those with financial interest in the commodity, treating
large, purely speculative investment banks and money managers the same as farmers,
grain elevators and food processors. The regulations provided expanded exemptions to
speculative position limits beyond just farmers and grain milling companies to include
many managed money firms and commodity swaps dealers that were managing their
financial risks.
9
By 2006, the non-traditional hedgers that were granted position limit
exemptions represented a significant share of the long-term futures contracts.l°
At the same time, the more complex financial derivatives -- involving interest rate or
currency swaps -- became more common. The Commission began to view agricultural
futures contracts as just another financial instrument, and effectively dismantled the
safeguards that prevented excess speculation in agricultural commodities. In 1987, the
Commission decided that many of the financial companies that were operating in the
futures markets -- especially in financial futures contracts -- were effectively hedgers,
just like grain milling companies or grain elevators, and should be considered
commercial traders.ll In 1991, the Commission exempted commodity-based swaps
dealers that used real commodity contracts to sell commodity index funds on the over-
the-counter (OTC) swaps markets.
12
These changes effectively exempted many financial
firms that traded on the commodity futures markets from any position limits and allowed
large financial speculators to dominate commodity markets.
Blurring the distinction between physical hedgers and financial investors as well as
allowing an unregulated swaps market to thrive encouraged more investors to enter the
commodities market. Managed money funds could and did trade and invest in both the
regulated exchanges and the OTC market. Investment banks were hedging their
investments in financial derivatives with agricultural futures contracts. The weakening of
position limits allowed more Wall Street firms to trade and hold large pools of
agricultural commodity futures contracts. Both of these deregulatory factors allowed a
tidal wave of new investors and funds into the agricultural commodity markets which
significantly increased demand - artificial demand - for physical commodities, which led
to inflationary price pressures.
The proposed exemptions from the proposed energy position limits include
bonafide
commercial hedgers as well as limited risk management exemptions for swaps dealers
Hagstrom, J. "Crowded commodities markets."
National Journal.
June 7, 2008 at 41.
Ibid.
10 74 Fed. Reg. 12285.
11 CFTC 2008 at 13-14.
12CFTC 2008 at 14.
13 Masters, M.W. and A.K. White. "The Accidental Hunt Brothers." July 31, 2008 at 12.that provide liquidity to the futures contract markets. Food & Water Watch supports
narrowing exemptions to position limits. While swaps dealers provide necessary liquidity
to the commodities markets, even limited risk management exemptions must be carefully
monitored so that the exemption is designed to provide counter-party liquidity to
commercial hedgers and not an avenue for managed money, index funds, and other
passive investors to evade position limits. To that end, the disclosure and reporting
requirements enumerated in the proposed rule are a good first step, but the Commission
should rigorously police the recipients of the swaps exemption to ensure that these
exemptions are not used as a blanket immunity from position limits for speculative swaps
customers.
The Commission Should Curtail the Impact of Passive and Index Investors on Futures
Markets
When the housing market began to implode in 2007, investors began to move into the
commodity market to diversify their portfolios, especially by moving into a market that
was not evaporating in value. These investors were treating commodities as another type
of asset, just like investing in stocks, bonds or real estate. 14 The rise in new investors
drove up food prices for consumers. Dan Basse, president of AgResources research firm,
told the
New York Times
that "The cost from the farm to the grocer is elevated because of
the volatility from these [index investment] funds. It will raise the cost for everybody,
including the consumer."1 s
To gain access to the commodity markets' appreciating value, Wall Street investment
banks developed commodity index funds that simulated investing directly in the
commodity markets. Index fund traders represent institutional investors like pension
plans and university endowments that have long-term investment goals, so these funds
employ a buy-and-hold strategy commonly used on the stock market]
6
The long-term
index fund investment horizon assumes the value of the commodities contracts will
steadily rise over time. As a result, instead of both buying and selling commodity futures
contracts, the funds overwhelmingly took what are known as long positions. Index funds
represent a large portion of all long positions on the commodity markets. Index funds
held about $200 billion in long commodity positions in March of 2008 - more than a
third of the $568 billion total long positions]
7
Importantly, the long-hold focused institutional investors can push prices higher because
these participants are not interested in selling their contracts for any price.18 Having
significant portions of the market unavailable for sale puts upward pressure on the
remaining contracts, as more bidders are competing for fewer contracts for sale. For food
14 Kass, D. CFTC Surveillance Team. CFTC Agricultural Markets Roundtable at 46.
15 Barrionuevo, A. and J. Anderson. "Wall Street is betting on the farm."
New York Times.
January 19,
2007.
16 Masters and White at 10.
17 Epstein, G. "Commodities: Who's behind the boom?"
Barron's.
March 31, 2008.
18 Coyle, T. National Grain and Feed Association. CFTC Agricultural Markets Roundtable at 176-7.and agricultural contracts and products, these indefinitely long-term investments amount
to "virtual hoarding" of agricultural products positions.19
Although the number of index fund traders is small, on average they take very large
positions in the commodities markets -- sometimes 10 times higher than non-index
traders,
z°
The four largest financial swaps dealers (Goldman Sachs, Morgan Stanley, JP
Morgan and Barclays Bank) controlled an estimated 70 percent of commodity index fund
trading in
2008.
21
Commodity index funds investments surged during the past five years.
Investments in commodity index funds grew 20-fold from $13 billion in 2003 to $260
billion in March
2008.
22
Commodity index fund investment in agricultural commodities rose sharply at the same
time world food prices surged. Index fund investments in corn, soybeans, wheat, cattle
and hogs has risen nearly five-fold from $10 billion in 2006 to $47 billion in
2008.
23
Index funds or investors can represent a significant chunk of the agricultural futures
market. Between January 2007 and March 2008, index investment in all agricultural
commodities represented nearly a third of the investments in these commodity futures
contracts.
24
For many food commodity futures contracts, index funds purchases
represented more than half the futures contract purchases. Between January 2003 and
July 2008, four-fifths of live cattle and wheat contracts (80 percent and 79 percent,
respectively), three-quarters of lean hogs contracts (77 percent), two-thirds of soybean
contracts (66 percent) and nearly half of corn contracts (48 percent) were purchased by
index funds.
2s
This dominance by index fund purchasers effectively controlled large portions of food
staples as global prices were rising. In 2007, index funds effectively purchased more
than a third (36.6 percent) of the soybean crop and three-fifths (62.3 percent) of the wheat
crop.
26
In 2008, index funds controlled nearly half (48.2 percent) of the wheat harvest,
nearly a third (30.8 percent) of the soybean harvest and one-fifth (19.1 percent) of the
corn harvest.
27
The U.S. Senate Permanent Subcommittee on Investigations reported that
index investors in the wheat market rose seven-fold from 30,000 contracts a day in 2004
to 220,000 contracts a day in mid-2008 and this surging investment drove up the cost of
wheat.
28
19Hagstrom at 43.
20UNCTAD. "The Global Economic Crisis" at 31.
21 Masters and White at ii.
22 Stewart, S. and P. Waldie. "Feeding frenzy."
Toronto Globe and Mail.
May 31, 2008.
23 Young, J.E. International Food Policy Research Institute. "Speculation and world food markets."
IFPRI
Forum.
July 2008 at 9. Includes U.S. market investments only.
24 Kass, D. CFTC Surveillance Team. CFTC Agricultural Markets Roundtable at 52-53.
25Masters and White at 19.
26Epstein 2008.
27National Agricultural Statistics Service data; Masters and White at 16.
28U.S. Senate Permanent Subcommittee on Investigations, Committee on Homeland Security. "Excessive
Speculation in the Wheat Market." June 24, 2009 at 2 and 5.Conclusions
Curbing excess speculation in commodity markets can protect consumers in the United
States and worldwide. The proposed position limits on energy products are a strong first
step in restoring commodity futures markets to their risk management and price discovery
purposes. These vital market functions can only work efficiently with strong regulatory
safeguards. Well-regulated commodity markets prevent market manipulation and fraud as
well as offer transparent price information to buyers and sellers. The Commission should
also act decisively to prevent passive index funds from overwhelming futures markets.
Strong position limits with limited, appropriate exemptions for
bonafide
commercial
hedgers can prevent these markets from being distorted by vast inflows of speculative
funds.
Sincerely,
Wenonah Hauter
Executive Director
Food & Water WatchPatty Lovera
Assistant Director
Food & Water Watch
1616 P St. NW~ Suite 300
Washington DC 20036
phone (202) 683-2465
www.foodandwaterwatch.or g
