Who's to Blame for Soaring Commodity Prices?

NEW YORK--The line separating "speculators" from "investors" is thin.

Yet speculators -- and the term is usually meant to be derogatory -- are being blamed for soaring commodity prices (notably $100 for a barrel of crude oil) and there is growing support for measures to rein in pure speculation on products deemed important to U.S. economic interests.

In Washington, legislation has been introduced that would broaden the enforcement powers of the Commodities Futures Trading Commission, the agency charged with regulating commodities markets. And a coalition of groups that market energy to consumers and U.S. industry is behind an effort to close the so-called “Enron Loophole,” laws that exempted entire markets from regulation and dubbed for the once-powerful energy-trading company that collapsed in scandal in late 2001.

Consumer advocates and energy dependent businesses getting slammed by higher fuel prices say sophisticated “investors” at hedge funds and investment banks have used these unregulated markets to artificially drive up the price of commodities.

“All we’re looking for is the same set of ground rules to ensure that there is the same disclosure” across all commodities markets, said Eric DeGesero, executive vice president of the Fuel Merchants Association of New Jersey.

International demand, particularly in developing nations like China and India, has clearly played an important role in the rising price of oil, said DeGesero. But, he said, so has “manipulation” by these professional “investors” (who are motivated purely by profits).

“We’re not against liquidity. We’re not against speculation. We’re against manipulation,” said DeGesero.

Traders and commodity brokers, meanwhile, note that speculation is a necessary and important part of the pricing equation. For instance, when a home-heating oil company buys a futures contract to lock in a price for fuel, the contract is purchased from a “speculator,” someone who trades futures contracts to make a profit.

Consequently, analysts caution against branding all speculators/investors negatively, and are quick to highlight the difference between speculation and manipulation.

“Speculation has definitely driven up the price of oil. But what speculators do is enhance the market’s natural movements. The problem is not speculators. The problem is supply and demand. It’s that simple,” said Sean Brodrick, a natural resources analyst with Weiss Research in Jupiter, Fla.

Brodrick said the U.S. would be better served if Congress and the Bush administration crafted a “serious” energy conservation program rather than imposing stricter oversight of commodities markets.
“Speculators are an easy scapegoat,” he said. “What they really need to be doing is focusing on the harder, bigger problem of: ‘how do we use less oil in this country?’”

But the pro-regulation lawmakers say when speculators are left to their own devices (and when the name of the game is “make money”) the result is market manipulation.

In fact, proposed federal legislation such as the “Close the Enron Loophole Act,” introduced by Sen. Carl Levin, D-Mich., is meant to target manipulation rather than speculation.

Specifically, the Enron Loophole refers to legislation passed in 2000 and supported by Enron lobbyists that allowed energy futures contracts to be traded on unregulated electronic exchanges with no government oversight.

While futures for crude oil, pork bellies and orange juice trade openly on commodities markets such as the New York Mercantile Exchange and the Chicago Mercantile Exchange, many complex energy contracts known as derivatives are traded on so-called ‘over-the-counter’ markets, also known as ‘dark markets,’ which are exempt from government regulation.

Supporters of tougher regulations point to allegations that a trader at now-defunct hedge fund Amaranth Advisors tried to manipulate the price of natural gas and reap huge profits for his fund by making big trades in ‘over-the-counter’ markets. The scandal in 2006 brought attention to these markets, and Levin wants to expand the CFTC’s regulatory authority to include them.

The legislation is supported by a diverse group organized as the “Energy Market Oversight Coalition.” In addition to DeGesero’s organization, members include the Agricultural Retailers Association, Independent Oil Marketers Association of New England, National Association of Truck Stop Owners, the National Association of Wheat Growers, Public Citizen, and the Steel Manufacturers Association.