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Raising oil margins won't curb speculators -Bodman ^ | 05/22/2008 | Staff

Posted on 05/23/2008 12:47:21 PM PDT by Red Badger

WASHINGTON, May 23 (Reuters) - Significantly raising margin requirements on oil futures trading at the New York Mercantile Exchange (NMX.N: Quote, Profile, Research) would not rein in speculative investors and bring down crude prices, U.S. Energy Secretary Sam Bodman said on Friday.

Many U.S. lawmakers blame hedge funds, pension fund managers and other speculative investors for pushing up prices for crude oil and other commodities to record levels.

"I don't think that the margin requirements per se are going to have any impact on it," Bodman said in an interview on CNBC television.

Legislation is pending in the U.S. Senate that would require the Commodity Futures Trading Commission, which regulates NYMEX, to significantly raise the amount of money, or margin, that speculators have to put up to trade oil futures.

The bill does not specify how high margins should be increased, leaving it up to the CFTC to decide.

However, the CFTC has told Congress that, while more speculators are doing business in the futures markets, the agency has no evidence they have caused prices to rise.

When purchasing stocks, many brokerage firms require investors to have between 30 percent and 40 percent of the market value of the securities in margin accounts.

Margin requirements for futures are generally lower, less than 10 percent for many contracts, and often change depending on the volatility of the contracts.

Separately, Bodman said he supported broadening some regulatory powers of the CFTC, which this week was given new authority from Congress to monitor and collect more information on some of the energy trading going on in exempt commercial markets, such as the Intercontinental Exchange (ICE.N: Quote, Profile, Research). (Reporting by Tom Doggett; Editing by Walter Bagley)

TOPICS: Business/Economy; Government; News/Current Events
KEYWORDS: energy; energyprices; futures; market; oil; speculators
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To: NVDave
Not to be commercial at all, but yr hmbl srvnt wrote a rather good book on options trading, five years ago.

If you get a spare moment, you might look up ''Trading Options to Win'', published by John Wiley & Sons, 2003.

Or not. Please be assured that I will not make a penny whether you decide to take a look, or don't.


41 posted on 05/23/2008 5:51:37 PM PDT by SAJ
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To: Red Badger
Sorry, Badger, not so. Goobermint contracts -- and I speak from direct experience, having written software for our glorious goobermint for a decade or so -- usually included liquidated damages provisions (quite sensibly), but I've never put up a dime as a performance bond.

Perhaps it's different in construction contracts, but I rather doubt it. If a construction project would take any length of time, a company that put up 50% of net contract value would lose its ass!

42 posted on 05/23/2008 10:05:27 PM PDT by SAJ
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I think I’ve followed you so far but ... why not the hedge funds ? If Goldman Sachs is running the hedge fund, doesn’t that count as a “big spec” ? If not why not ? (trying to learn something here!)

Thanks for all your info.

43 posted on 05/24/2008 9:17:47 AM PDT by nicola_tesla ("Life is Tough... It's Worse When You're Stupid".... John Wayne)
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To: nicola_tesla
Goldman trades spec in its own accounts, and they are indeed a large spec by CFTC rules. The problem here is different.

The problem occurs when a big pension fund -- say, CALPERS -- approaches G-S and says something like, ''We want to balance our asset portfolio and put 5% (or whatever amount) into commodities''.

The first problem is that CALPERS is subject to ERISA regulations (if/when the goobermint decides to enforce them, which is a separate question, of course...). As such, they are barred from participating in a number of areas, and commodity futures is one of them. The ''prudent man'' rule, and all that stuff, right?

So, what G-S does is to engineer an end run around the regulations. CALPERS **can** trade indicies, S&P 500 and Russell 2000 and whatnot, and G-S create an index product for them, or invest them in one of Goldman's existing index products.

CALPERS puts up 100% of the notional value of the index product, whatever it happens to be, because they are tightly limited as to the use of leverage. G-S allots 10% or so of CALPERS' stake (whatever is a mkt-competitive ''margin'' percentage) to the index product in question, takes a fee (of course), and puts the remainder into T-Bills or some similarly risk-free or nearly risk-free instrument.

In effect, CALPERS doesn't lever itself here, but Goldman does it for them. And this is the second problem. Leverage-by-proxy is not, afaik, prohibited. It certainly should be, however, because if the index product goes south, which is hardly an impossible occurrence, CALPERS will lose some sizeable proportion of its initial stake, T-Bills or no. It doesn't matter who is **doing** the levering; what matters is the effect on the capital stake should the levered instrument misperform, ok?

The third problem also stems from the way CALPERS is regulated. An index product -- ANY index product -- is what is called LOSO, or 'Long Side Only', because pension funds et al. are barred from selling anything short (reasonably enough).

Now, CALPERS by itself isn't any sort of problem. It's huge, to be sure, but so are many futures mkts. The problem occurs when LOTS of pension funds do this, because their capital base -- even the 5% or 8% or whatever portion they want to put into commodities -- can and does ultimately overwhelm the mkts in which they participate.

Net-net, what happens is that a given mkt or mkts, in the present case crude oil and products, sees an enormous infusion of capital, and every dollar of the new capital is on the long side of the market.

Now, here's your final exam for this little course in Index Futures 201:

Under these conditions, what MUST happen to the price of the affected markets, and why is this type of 'investment' a long-term problem for the US (and world) economy?

500 words or less.


I hope the explanation above is sufficiently clear. If not, please say so, and I'll elabourate a bit more. FReegards to you!

44 posted on 05/24/2008 9:50:26 AM PDT by SAJ
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