Derivatives Industry Objects To CFTC Proposal On Swap Dealers
June 17 2009 - 5:30PM
Dow Jones News
Some major players in the derivatives industry this week blasted
a preliminary proposal by federal commodities regulators that would
place more restrictions on over-the-counter derivatives dealers
seeking exemptions from speculative position limits on futures
contracts.
The Commodity Futures Trading Commission's proposal came in
response to complaints from some lawmakers last year who said that
speculators were driving up oil and agricultural prices and the
CFTC did not do enough to stop them.
Although the agency has found no evidence that speculators
contributed to the record-high prices, it said last September it
planned to re-examine how dealers, such as Goldman Sachs (GS) and
Morgan Stanley (MS) are granted exemptions from position limits. It
suggested eliminating hedge exemptions for swap dealers and
replacing it with a stricter new type of "limited risk management"
exemption category that would impose additional reporting
requirements and force dealers to certify that their clients do not
exceed position limits.
But big players in the industry, including CME Group Inc. (CME),
the Futures Industry Association and the International Swaps and
Derivatives Association all said this week they will oppose efforts
to eliminate hedge exemptions for swaps dealers.
"FIA would not support repealing the dealer hedge exemption or
replacing it with a limited risk management exemption," the
industry group's President John Damgard told the CFTC in a comment
letter. "In our view, repealing the hedge exemption would harm
those who rely on U.S. futures markets by calling into question the
sound economic analysis that has served as the foundation for the
commission's bona fide hedging definition for decades."
Swap dealers often use futures exchanges to hedge business risks
from their over-the-counter business. Much of this business is done
with traders like pension funds that seek to gain exposure to
commodities as a way to diversify their portfolios. Rather than
invest directly in the futures markets, these funds go to swap
dealers and invest over-the-counter through indexes which track the
performance of a basket of commodities over time.
If commodity prices go up, the funds receive a pay-out from the
swap dealers. The swap dealers then replicate their exposure in the
index by purchasing exchange-traded futures contracts.
Some have argued these so-called index speculators are to blame
for last year's price spikes.
The CFTC's proposal, if enacted as written, would likely force
the agency to have to impose limits for all commodities. That would
be a departure from current practices. While the CFTC sets position
limits for some agricultural products, exchanges are given
discretion for setting limits on other commodities like metal and
energy. Many of those contracts are only subject to position limits
in the last few days of trading.
CME Group Inc. (CME) Chief Executive Craig Donohue told the CFTC
in his letter that setting limits on most futures contracts is best
left to the exchanges.
"Exchanges are in the best position to understand their listed
contracts and their customers' risk management needs, and to
provide appropriate hedge, risk management or swap exemptions," he
wrote.
The CFTC's plans to examine hedge exemptions coupled with the
continued rise in oil prices in recent weeks could lead to another
wild summer on Capitol Hill as lawmakers may again call on the CFTC
to rein in excessive speculation.
Already several bills on the subject have been introduced this
congressional session, and lawmakers appear poised to approve
sweeping changes to the regulation of financial markets as a
whole.
"It's coming back and it's coming back strong," said CFTC
Commissioner Bart Chilton.
Michael Masters, a hedge fund manager and frequent witness at
congressional hearings, said he has been in talks with lawmakers
recently and urged them to stay on top of the speculation
issue.
Masters, who is known for his view that "index speculators"
contributed to a commodity price bubble last year, said in his
comments he commends the CFTC's latest efforts, but they still may
not go far enough. Anyone wishing to exceed aggregate limits on and
off exchange, he said, should be subject to two conditions. These
conditions would entail forcing all counterparties to "fill out
Form 40" declaring what type of trader they are and agreeing to
report on a daily basis "a list of all traders with
futures-equivalent positions" that exceed limits, among other
things.
- By Sarah N. Lynch, Dow Jones Newswires; 202-862-6634;
sarah.lynch@dowjones.com