Investor access to commodities threatened

Trade organizations rally against proposed tighter limits on futures

Aug 11, 2008 @ 12:01 am

By Dan Jamieson

Industry trade groups have en-tered the debate over congressional proposals that could restrict investors' access to products that invest in commodities or track commodity indexes.

Of particular concern to the industry are efforts to tighten up on position limits for speculators in the futures markets.

The Securities Industry and Financial Markets Association of New York and Washington and several other trade groups are worried that any new limits could diminish opportunities to diversify into commodities.

In a joint letter late last month to members of the House of Representatives, several organizations—including SIFMA, the Financial Services Forum, the Financial Services Roundtable, the Futures Industry Association, the Investment Advisers Association and the Investment Company Institute, all based in Washington, and the International Swaps and Derivatives Association Inc. of New York — urged legislators to oppose a bill (InvestmentNews. July 28) that the groups fear would limit investors' efforts to manage "the very real dangers of inflation" through commodity investments.

Separately, in a letter late last month to House Speaker Nancy Pelosi, D-Calif., SIFMA said that the bill could harm investors.

LEGISLATION STALLS

The House bill, and a similar measure in the Senate, have both stalled — at least for now.

"A majority in both houses wants to do something quite significant" in limiting speculative interest, said Michael Greenberger, a professor at the University of Maryland School of Law in Baltimore and a former head of trading and markets at the Commodity Futures Trading Commission. He has testified before Congress in support of tighter limits on speculators.

Trading limits could restrict investors' abilities to access products that invest in commodities or track commodity indexes, Scott DeFife, senior managing director of government relations at SIFMA, said.

"Much of the vituperation in Congress has been directed at the newer generation of [commodity-linked] ETFs because of their size," said Brad Zigler, the Santa Rosa, Calif.-based managing editor of HardAssetsInvestor.com of New York.

Investment banks that sell futures and swaps to exchange traded funds and other clients are exempted from position limits when they hedge their trades, said Barbara Wierzynski, general counsel at the Futures Industry Association in Washington.

"But [the Wall Street banks are] the group that a lot of these bills are targeting," she said.

Ending the exemption for investment banks is one idea that Congress has debated.

Large speculative activity produces volatility, and as a result, commercial consumers such as airlines are having a hard time hedging, Mr. Greenberger said. "Futures markets cannot operate if they're saturated with speculative investment," he said.

"Prices are so volatile, it's not worth locking" in a price with a hedge, Mr. Greenberger said.

Grain-elevator operators that buy and store crops have quit hedging, said Mike Masters, managing member, Masters Capital Management LLC in Christiansted, U.S. Virgin Islands, who has also testified before Congress.

Increased volatility raises margin requirements, and combined with the credit crisis, has made financing hedges too expensive, he said.

SIFMA has "not seen evidence yet that any of this [investment activity] is driving up prices," Mr. DeFife said.

Ms. Wierzynski said that financial players bring liquidity to commodity markets, and don't have enough money committed to push prices one way or another.

ALTERS THE TREND

Mr. Masters disagrees.

"When you get an influx of money into the markets by people who consider commodities an asset class, it alters the price trends that you would have gotten from normal supply and demand factors," he said.

Instead of commodity indexes that rely on futures, investors can buy oil wells or timberland to diversify, Mr. Masters said.

In an interim report last month, the CFTC said that net long positions of non-commercial, or speculative, oil traders have "been relatively constant," which undercuts the "hypothesis that [speculators have] pushed prices up recently."

Mr. Zigler said that net long positions of oil speculators have been falling lately as prices rose. But critics say that the CFTC has been undercounting speculative interest.

They say that speculators, all told, account for about 70% of open interest in oil contracts. Recently revised CFTC figures peg that amount at almost 50%.

Mr. Greenberger and Mr. Masters have argued for letting commercial hedgers determine how much speculative interest to allow in the contracts they use.

"No one here is really the villain," Mr. Masters said. "It's just the enormity of [investment] folks coming in" that's causing a problem.

E-mail Dan Jamieson at djamieson@investmentnews.com.

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