Tuesday, July 7, 2009

Energy speculation vs. hedging - regulate it all, ask questions later

From Bloomberg:
U.S. regulators say they may clamp down on oil and gas price speculators by limiting the holdings of energy futures traders, including index and exchange-traded funds.

The rationale is that speculators artificially inflate energy prices. So where is the evidence that "speculators" control energy prices? There is more money under management in energy index and exchange-traded funds now than there was a year ago, while oil price is now less than half.

The argument is that oil speculators hurt the consumer. Then why stop at oil and gas "speculators"? Why not hit property speculators? Treasury bond speculators? Stock market speculators? The stock market was the largest speculative bubble out there, but nobody was proposing regulation to stop the speculators because we call them "investors".
Gensler said the CFTC is reviewing exemptions from position limits for “bona fide hedging,” after seeking public comment on whether the exemption should continue to apply to traders who are in the market for financial reasons, rather than those that actually use the commodity.

"Bona fide hedging"? How do you define that? If someone owns a large airline/transportation portfolio of stocks, would buying gasoil or crude to hedge fuel price exposure be a "bona fide" hedge? How about a REIT that owns properties and wants to buy heating oil or natural gas forward to hedge against heating expenses spiking in the winter? What about a pension fund that wants to hedge against inflation by buying crude (as many pensions and endowments do)? Where do you stop?

There are two ways to address the energy price spiking issue:
1. keep the dollar stable to avoid a run-up in commodity prices due to inflationary fears
2. diversify away from crude oil as the key energy source

Sounds as though the US is not seriously interested in either one. The proposed regulatory measures will destroy liquidity and reduce companies' and institutions' ability to manage risk. But they do present an excellent opportunity for politicians and bureaucrats to make a name for themselves.

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