CFTC Presses Forward with Position Limit Proposal Despite Doubts


Members of the U.S. Commodity Futures Trading Commission agreed to float a proposal to limit speculation on the direction of energy futures prices Thursday, but a majority of commissioners expressed skepticism the limits would be effective.

The proposal is being driven by CFTC Chairman Gary Gensler, a Democrat, who has made reining in speculators a top policy priority since he took the helm of the CFTC in May 2009.

Thursday's plan is meant to prevent an excessive proportion of energy markets from being held by a small number of participants, and comes in response to criticism the CFTC faced in 2008 when oil prices skyrocketed to record highs. Critics blamed speculators for the spike and accused the CFTC of lax oversight. Those critics put most of the blame on off-exchange trading by index investors, such as pension and endowment funds, for driving the volatility.

The proposal would impose several tiers of trading limits on physically and financially settled oil, natural gas, heating oil and gasoline futures and options contracts. Those commodities are traded on CME Group's (CME) New York Mercantile Exchange as well as on Atlanta-based IntercontinentalExchange's (ICE) trading platforms. The limits are quite high - 98,100 oil futures and options contracts on Nymex, for example - and if implemented today would affect only a handful of the hundreds of large traders active in commodities markets.

The plan also creates a new, stricter process that commodity swap dealers, like banks, that trade both on- and off-exchange, would have to follow in order to be granted exemptions from the limits.

A major sticking point at Thursday's public meeting to unveil the proposal, was the CFTC's lack of authority over off-exchange trades, which make up the bulk of most commodity markets, but are outside the CFTC's jurisdiction. A bill in the U.S. House which passed last month would bestow that power to the agency, but the Senate has yet to take it up.

Three of the five commissioners said the CFTC's inability to limit over-the-counter activity gave them pause about imposing new restrictions on exchange trading. Their strongly worded statements at the close of the public meeting, especially those of Gensler's fellow Democrat Michael Dunn, left a majority bloc for the proposal in doubt, despite the 4-1 vote to move forward, with Republican Jill Sommers casting the lone dissenting vote.

"Forging ahead on a position-limits regime for political expediency is not the course of action that this agency needs," Dunn said.

Many within the derivatives industry reacted similarly to the CFTC's proposal, saying it may have the unintended effect of driving more business over-the-counter, overseas and out of sight from the CFTC.

"If they really want transparency and market integrity, they definitely need the [congressional] OTC reform in place before they do this, because (otherwise) everyone's going to go off the exchanges," said Adam Felesky, chief executive of Toronto-based Horizon Exchange Traded Funds Inc., which manages several energy ETFs.

Gensler has asked Congress for authority over OTC trading, and said Thursday he plans to have a meeting in March to address whether precious metals like gold and silver should also be covered by speculative position limits.

Additionally, some have expressed concern that the CFTC is pressing ahead even though its own economists have previously said they could find no link between speculation and the oil price spike of 2008.

CFTC officials said Thursday they do not need to show excessive speculation is affecting prices in order to approve the rule. Gensler also stressed that the rule's intent is not to try and tame volatile prices, but to limit market concentration.

Some observers, however, disagree with that premise.

"The reality of life is this is a proposal that was solely brought about because of the rise and fall of prices in 2008. And we're kidding ourselves if we believe otherwise," said Gary DeWaal, general counsel at Newedge USA, the U.S. arm of the leading brokerage.

The proposal will now be put out for comment, but it will take at least several months of review and a second vote to implement it.

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