The final dam to stopping $150-a-barrel oil and $4-a-gallon gas is being breached, as financial regulation continues its daily erosion into worthlessness.Watching the CFTC attempt to back up Dodd-Frank legislation since it was passed in July has been like watching salmon flop upstream as the water drains out — it’s slow, arduous and likely to lead nowhere.
It is clear now that we will instead be witness to the highest prices for commodities ever, fuelled by the biggest influx of profit-driven trading and investment ever, unstanched even in the slightest by the hopes of financial regulation legislation.
In my upcoming book, Oil’s Endless Bid, due out from John Wiley & Sons in March, I argue that financial influences from investors and traders and the massive growth of derivatives markets have been the single most important factor for oil’s high and unreliable price, far outstripping fundamental arguments of emerging market growth, peak oil or any other supply constraints or a devaluing dollar.
Putting some controls on at least some of these speculative influences was supposed to be one of the goals of Dodd-Frank, but the actual rule-making to put teeth behind the legislation has been left to the Commodity Futures Trading Comission (CFTC). Since it began tackling this massive job in July 2010, the CFTC has literally been uried by the pushback from industry lobbyists, hired-gun lawyers, derivatives broker/dealers and virtually every industrial corporation with a trading desk that depends even marginally on derivatives activity to protect or augment profits.
The process of rule-making has seemed like it would be fair — propose a rule from the outline of Dodd-Frank and open a forum for comment and discussion before ultimately writing and enforcing it. The problem has been the virtual avalanche of opinion that has descended on the commissioners entirely from the industry side; pretty much no one has bothered to speak for the American public — the consumer — and the industry just wants Dodd-Frank and those profit-dissolving proposals to go away.
Consequently, there has been little to no movement since July, despite the mandate of legislation to have rules for energy markets in place by January, a deadline that the CFTC has already indicated it will certainly miss.
Two specific areas have already convinced me that the rules will ultimately be toothless, business will proceed as usual and whatever is implemented will do nothing to curb the explosive price rises we’ve seen not only in oil, but in copper, corn, coffee and cotton last year.
Proposals on contract position limits, necessary to avoid any single participant from having overwhelming influence on prices, were argued previously in December without resolution.
Bart Chilton, the one commissioner committed to strict position-limits in futures markets, gave up on a hard limit Thursday, proposing a much weaker “point system” to monitor participants, without any authority to force a finite limit or liquidation of positions.
If Chilton has given in, a dam has broken, and we shouldn’t expect substantial position-limiting rules in futures markets to come from the CFTC.
Another issue defining new swaps clearinghouses and who can own them has generated similar industry interest and pushback. Creating “aggregate” owned clearinghouses would help in transparency, fairness of access and help keep the clearing business competitive.
Undue influence by a small group of banks in a new Swaps Execution Facility (SEF) could potentially control the nexus of trade and give far too much of an advantage for the bank owners, it is feared.
Republican commission members have agreed with investment bank lawyers and the Futures Industry Association (FIA) that even the proposed 40% ownership limit for any one participant is still too low. A recent Department of Justice opinion advocating third-party ownership of new SEFs has been excoriated by industry spokespersons representing the banks saying: “The DOJ letter’s analysis appears deficient and fails to consider the relevant history and features of the derivatives markets.”
We can see where this issue is ultimately headed. Banks will enjoy pass-through clearing that will in name only be at all different from the bilateral clearing system that is already in place and has sunk derivative markets in the past.
The bottom line is that commodity trading isn’t about to change one iota from the system that has caused one boom and bust cycle for oil already and is currently causing others in corn, coffee, copper and cotton.
For the average investor, it’s tough to profit from this laissez-faire rule-making result — most of the trading profits from higher commodity prices will be enjoyed by the funds and commodity proprietary desks, accessible only to the most well-heeled investor. For the “regular” guy, I again repeat my recommendations that have proven so profitable so far: Exxon Mobil(XOM ) and ConocoPhillips(COP ) to take advantage of rising crude oil and Freeport-McMoRan (FCX ) and Southern Copper(SCCO ) to profit from rising base metals, especially copper.
A great opportunity to avoid the similar problems in commodities we saw in 2008 with credit default swaps and mortgage securities is being lost. Get ready for $4 gas and your local Starbucks brew heading north of 5 bucks — all courtesy of the financial lobbyists, hedge fund traders, industry spokesmen and the CFTC.
This post originally appeared on The Street.
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