Regulating
‘Excessive’ Speculation
The regulatory gap between the two main energy markets worldwide, NYMEX and ICE, is likely to
be substantially reduced if new regulation is passed in the United States.
By Carlos Blanco & Anita M. Herrera
AFTER A NINE-MONTH investigation, the US Senate issued a report
1
effectiveness of the CFTC’s market surveil-
that focused on the activities of two hedge funds, Amaranth and lance program to identify manipulation
Centaurus, during 2006. The report’s main conclusion is that Amaranth and misconduct through daily “large trad-
was attempting to manipulate the futures markets by taking large posi- er reports” has been called into question in
tions in natural gas derivatives in New York Mercantile Exchange recent years. The main reason is that the
(NYMEX) and IntercontinentalExchange (ICE) before losing over US$6 CFTC only has access to incomplete infor-
billion after their trades soured in September 2006. mation. Although the CFTC may selective-
ly make a “special call” to request trading
... the empirical evidence has been mixed regarding
information from non-regulated
the role of speculators in energy markets
exchanges, including over-the-counter
transactions
2
, non-regulated exchanges
Until recently, calls for increased regulation on energy derivatives are not – as a rule – required to provide
transactions could not be easily justified. Even though hedge funds and any information that would justify making
other investors in energy and commodity markets have been routinely the “special call” in a timely manner to
blamed by politicians and other pundits for the price increases as well as allow the CFTC to take preemptive meas-
the temporary periods of high volatility experienced in recent years, the ures with regards to excessive speculation.
empirical evidence has been mixed regarding the role of speculators in Therefore, the information regularly
energy markets. For example, academic studies have not concluded that received by the CFTC may not be particu-
increased speculative transactions in energy markets reduce or increase larly useful for analysing energy deriva-
the amplitude of price fluctuations around equilibrium levels. On one tives market activity because no routine
side, speculators may exhibit herd behaviour at
times and may have an impact in terms of ampli-
Figure 1: Daily March-April 2007 [Natural Gas Basis Changes]
fying price trends. However, for speculators to stay
in business, they have to buy low and sell high and
as they trade against each other, they can not all
be long or short.
The current disparity in regulation between
NYMEX and other exchanges such as ICE results
from the “Enron loophole” inserted in 2000 into
the US Commodity Exchange Act. The ‘loophole’
refers to a provision requested by Enron and others
that created electronic energy exchanges, such as
ICE, that are exempt from oversight by the
Source: Black Swan Risk Advisors, LLC.
Commodity Futures Trading Commission (CFTC)
Figure 2: March 2007 minus April 2007 Basis
because only qualified participants may trade on
these exempt exchanges. As a non-regulated
exchange, ICE is not subject to certain CFTC
requirements such as the market surveillance pro-
gram, even though that may soon change.
Regulated exchanges and traders are required to
report end-of-day positions for traders above cer-
tain thresholds set by the CFTC. Additional reports
provide overall trading information that enable the
CFTC to identify discrepancies with the large trader
reports. However, with the growing role of electron-
ic exchanges in the world of energy trading, the
Source: Black Swan Risk Advisors, LLC.
10 SEPTEMBER 2007 COMMODITIES NOW
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