Gene Epstein Economics Beat Column in Barron’s

Barron’s Online            
Monday, June 30, 2008

ECONOMIC BEAT  
A Simple Old Reg That Needs Dusting Off
By GENE EPSTEIN
Fixing the inflation problem.

IN ITS STATEMENT ACCOMPANYING ITS DECISION last week to leave the short-term interest rate unchanged, the Federal Open Market Committee expressed concern about "the upside risks to inflation," specifically mentioning the "continued increases in the prices of energy and other commodities."

Meanwhile, the Homeland Security and Governmental Affairs Committee held Capitol Hill hearings on "Curbing Excessive Speculation in the Commodity Markets."

The connection between the two events was little noticed but is direct: Something can be done about the higher prices of food and fuel — the source of the inflation that concerns the Federal Open Market Committee. Much as I hate to agree with any politician who blames the speculator whenever goods get too dear, which usually amounts to shooting the messenger, Homeland Security Committee Chair Joe Lieberman unfortunately had a point when he accused speculators of "artificially inflating the prices of food and fuel futures."

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Saber Rattling at the CFTC

On June 26, 2008 the Commodity Futures Trading Commission posted an ominous "CFTC Emergency Authority Background" on its website. I have to tell you that if this is meant to "telegraph" their intentions, it would not likely be positive for commodity markets in general, and petroleum markets in particular. In my humble opinion, this action may be a prelude to invoking emergency powers to restrict commodity buying, and thus lower prices.

Of course, the laws of unintended consequences pertain. Some commodities have daily trading limits. If a bearish shock were to hit these markets, bulls have to potential to be locked in adverse positions as prices fall day after day without any significant trades taking place. I have been there. It ain’t fun.

If the CFTC simply wants to panic the market, this is a good start. Read the advisory at: http://www.cftc.gov/stellent/groups/public/@newsroom/documents/file/cftcemergencyauthoritybackgrou.pdf

CFTC to Revise Commodity Index Fund Policies

The New York Times reported that the CFTC is set to announce new policies on Monday, June 2. There are no details available, except that the Commission is not expected to enact sweeping changes recommended by me and others. Read the Times article here: http://www.nytimes.com/2008/05/31/business/31cftc.html 

This announcement does have market-moving potential if it is perceived as restricting the buying activity of commodity index traders. I cover the CFTC’s current and historical policies regarding CITs on pages 9 through 13 of my book, The Commitments of Traders Bible. To recap, the Commission has been most accommodating to these long-only commodity “investors” represented by the largest swap dealers. They have granted wholesale exemptions from speculative trading limits imposed on traditional commodity and hedge funds. Last fall they announced their intention to drop limits altogether for long-only commodity indexers. (This idea has since been put on hold.)
 

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CFTC Announces Multiple Energy Market Initiatives

"The U.S. Commodity Futures Trading Commission (CFTC or Commission) today announced a number of initiatives to increase transparency of the energy futures markets. You can read their statement here: http://www.cftc.gov/newsroom /generalpressreleases/2008 /pr5503-08.html , but don’t get too excited. I counted 5 occurrences of the word transparency, plus a "bringing greater sunshine to these markets" thrown in for good measure.

Bunk. The CFTC’s announcement provides not one new piece of public information or data about the petroleum markets. We are simply to take their word that they are increasing surveillance.

If the CFTC truly wishes to provide greater transparency, it would include petroleum markets in the COT-Supplemental weekly report, which breaks out the positions of commodity index players. These are the largest long players in the dozen markets that the CFTC does report, suggesting that they are a dominant player in oil as well.

The curtain has already been pulled on the Commission’s using the "commercial" category to camouflage the big swap dealers holdings. Why don’t they just come clean and report the totals.

These should also include the ICE crude oil contracts. After all, ICE is an American company, which by operating in London allows large traders a certain degree of anonymity not provided here. The CFTC allows ICE trading terminals in the US. They should report the large traders. Just my opinion…


 

Making Sense of Futures vs. Futures + Options Report

I use the Futures + Options report in lieu of the Futures only Commitments of Traders Report. The Futures + Options report is, obviously more comprehensive, and it is also the basis for the COT-Supplemental breakdown of Index Traders. Although the net position patterns may look almost identical for many markets, the actual position totals vary. This brings up an interesting point. In some markets, in some weeks, the totals for the Non-Commercial category may be larger on the Futures Only than on the Futures + Options report:

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CFTC Announces Agriculture Roundtable Participants

On April 22, the CFTC is holding a roundtable regarding problems caused by overspeculation in ag futures markets. Here is the list of invited participants.

Release: 5486-08
For Release: April 15, 2008

Provides Various Ways to Access the Public Forum

Washington, DC – The Commodity Futures Trading Commission today released the participant list for the upcoming roundtable discussion on the agricultural markets. The roundtable is designed to gather information about whether the futures markets are properly performing their risk management and price discovery roles. Due to significant space limitations in the Commission’s hearing room, the CFTC is offering several avenues for interested members of the public to access the roundtable.

 

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Barron’s Cover Story 3/31/2008 Commodities: Who’s Behind the Boom?

By Gene Epstein

CHINA, AS EVERYONE KNOWS, IS A BIG FORCE IN THE extraordinary boom in commodities. Its voracious appetite for everything from corn and wheat to copper and oil has helped push up U.S. commodities prices by some 50% over the past 12 months.

But China is by no means the whole story. Speculators — including small investors — are also playing a huge role. Thanks to the proliferation of mutual funds and exchange-traded funds tied to commodities indexes, speculative buying has gone way beyond anything the domestic commodities markets have ever seen. By one estimate, index funds right now account for 40% of all bullish bets on commodities. The speculative juices are even more plentiful — nearly 60% of bullish positions — if you count the bets placed by traditional commodity “pools.”

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CFTC April 22 Forum by web or phone

CFTC Announces Details of April 22 Agricultural Forum

Washington, DC – The Commodity Futures Trading Commission (CFTC) announced today further details about the upcoming roundtable discussion on the agricultural markets. The roundtable is designed to gather information about whether the futures markets are properly performing their risk management and price discovery roles.

Agenda

Participants

The roundtable will consist of officials from the CFTC, U.S. Department of Agriculture, Farm Credit Administration, Federal Reserve System, and a broad spectrum of agricultural market participants, including producer groups, commodity merchandisers, commodity consumer and producer groups, financial firms, and futures exchanges. A complete participant list will be available before the forum.

Attendance and Comment

The roundtable will begin at 9:00 a.m. on Tuesday, April 22, 2008, in the Commission’s hearing room located on the ground floor of its headquarters – Three Lafayette Centre, 1155 21st Street, NW, Washington, DC 20581. The hearing room doors will open at 8:30 a.m.

Due to significant space limitations, interested members of the public are strongly encouraged to use the following alternative options to access the hearing:

1. Watch live broadcast of the roundtable via Webcast on www.cftc.gov

2. Call in to a toll-free telephone line to connect to a live audio feed

Call-in participants should be prepared to provide their first name, last name, and affiliation. Conference call information is listed below.

Domestic Toll Free: 866-759-0291

International Toll: 763-416-8828

The conference ID: 43214239

Call leader name: “CFTC”

Because opportunities for questions and comments the day of the roundtable may be significantly limited, participants and members of the public may submit written statements for the official record up to two weeks following the roundtable.

What you didn’t read in the Barron’s cover story

I spent the better part of 2 weeks working with Gene Epstein on his cover story on the commodity bull markets. Obviously most of the material gets cut. Rightfully so, I am sure. There are a couple of points about the commodity bull markets that I think were missed. Here is the link, although you might have to sign up for a free 4-week trial to read the article:

http://online.barrons.com/article/SB120674485506173053.html?mod=b_hpp_9_0002_b_this_weeks_magazine_home_top&apl=y

First so far as I can tell, small investors trading through commodity index mutual and exchange funds appears to be the minor part of the commodity speculation problem. In trying track down these funds and total their assets, I found less than $40 billion. This leaves $300 billion unaccounted for. How did I arrive at this number?

The commodity indexes most popularly used as benchmarks for commodity investment include in their list a number of British commodity markets. While the US markets, by my estimate quoted in Barron’s, have absorbed $211 billion currently, the total figure including London is $358 billion.

Where is the rest of the money coming from? Institutional investors including pension funds, endowment funds, and even sovereign funds have made significant forays into commodities in recent years as way of boosting and diversifying returns. They have done so up until now in what has to a great extent been a self-fulfilling forecast.

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CFTC Acknowledges Speculation Problem In Commodities

The CFTC posted this note at their website. Commodity Index Funds have pumped an estimated $70 billion+ into the 12 US commodity markets the CFTC reports in its COT-Supplemental report. They are now the largest long player in these markets, with nearly 40% of the long contracts. If you extrapolate this out for the non-reported markets which are included in popular commodity indexes used as benchmarks, the total “investment” in US commodity markets is upwards of $225 billion. For more background see this post: CFTC Expands Commitments of Traders Reporting.
Release: 5474-08
For Release: March 19, 2008

CFTC Announces Forum to Discuss Recent Events in Agricultural Markets

Washington, DC – Today, the Commodity Futures Trading Commission (CFTC) announced it will convene a public meeting to discuss recent events affecting the agriculture markets – including the lack of convergence between the futures and cash prices, higher margin requirements and the impact on market participants, and the role of speculators and commodity index traders.

“These historic market conditions, particularly in wheat and cotton, require the CFTC to hear firsthand from participants to ensure that the exchanges are functioning properly to discover prices and manage risk,” said CFTC Acting Chairman Walt Lukken.

The forum is scheduled to begin at 9:00 a.m. on April 22, 2008 and will be held in the agency’s Washington, DC headquarters. It will include representatives from the U.S. Department of Agriculture and a broad set of stakeholders in the agricultural markets, such as exchanges, traders, merchandisers and producers. Further details on the forum will be made available in the coming weeks.

Last Updated: March 19, 2008