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"Speculative Limits" under Review

The Commodity Futures Trading Commission will hold a hearing on whether the Commission should set limits on speculative positions for all commodities of finite supply-in particular for energy including crude oil, gasoline and natural gas.

CFTC chairman Gary Gensler says the agency currently determines limits on certain agricultural products but not on energy. While futures exchanges set limits and accountability levels in order to prevent congestion and manipulation, they are not required to enforce limits to prevent excessive speculation, he said in a statement.

The Commission will seek views on applying position limits across all markets and participants, including index traders and exchange traded funds. The hearing, although treated as novel in the media, in fact follows up commitments Mr. Gensler made in May, when he was confirmed as the head of the CFTC.

At that time Senator Bernie Sanders of Vermont blocked Mr. Gensler's approval on the ground that during the Clinton administration this former Goldman Sachs partner and Treasury official worked to deregulate the financial industry.

To get approval, Mr. Gensler promised to tackle a number of regulatory issues. Among other subjects, he stated that "Position limits should be applied consistently across all markets, all trading platforms, and exemptions to them must be limited and well-defined.I will ask CFTC staff to undertake a review of all outstanding hedge exemptions"

Some futures industry players have already published their views. The IntercontinentalExchange pointed out: "In response to volatile commodity prices, numerous studies were conducted by government and independent agencies worldwide during 2008 and into 2009. These studies largely concluded that supply and demand remain the fundamental drivers of commodity prices rather than excess speculation."

It is clear that a number of issues will be raised in the discussion. For instance, ICE says current regulation by the CFTC forces ICE to adopt the position and accountability limits established by its competitor, NYMEX. "ICE is provided no access to the information needed to judge the suitability or size of these limits," the exchange complained.

Exchanges and market makers face greater uncertainty. "The uncertain regulatory environment is the biggest challenge facing options exchanges and market makers," says Andy Nybo, a principal at Tabb Group.

In a study, Mr. Nybo found that consolidation among option exchanges is inevitable, especially as new exchanges enter the options market over the next several years. "There is a fear that a populist legislative or regulatory official could render the option market-maker business model obsolete with the stroke of a pen," he says.

On the other side, businesses that are heavily dependent on fuel prices called on Congress to mitigate dramatic spikes in prices as occurred in 2008. The trucking industry, which spent $151 billion on diesel last year, wants Congress to increase the transparency of futures markets and impose aggregate position limits on energy commodities.

"Since March, the price of diesel has risen 56 cents per gallon despite supplies being at a historical high and diesel demand at a 9-year low," said American Trucking Associations chief executive Bill Graves. "It seems that more is at play than just the fundamentals of supply and demand."

How widely new limits may be applied is one of the many questions. "Tightening up the classifications of hedgers and speculators is long overdue and justified, but having the CFTC impose position limits on the futures markets is unnecessary and counterproductive without similar position limits being imposed on the OTC markets," says senior analyst Paul Zubulake of Aite Group, a consulting firm.

In any case, the CFTC is to hold a series of hearings in July and August, not only on position limits but also on other issues. Mr. Gensler appears to be determined to prove that he is an aggressive regulator, in keeping with the mood in Congress.

Whether this will be useful for moderating fluctuations in the price of oil or other commodities is another matter. Commodity markets have had very volatile periods for as long as they've existed, long before commodity indexes, ETFs or futures trading.