The Senate heard testimony today from hedge funds managers and oil experts who said that prices at the pump could drop by 50% in 30 days if oil speculators could be brought under control. Margins should be raised from 6% to 50% in order to reduce leverage and postion limits would be necessary.
NEW YORK (CNNMoney.com) -- Near-record oil prices could quickly fall by half if Congress were to rein in speculators, according to testimony Monday from a hedge fund manager and oil company adviser on Capitol Hill.
Michael Masters, of Masters Capital Management, told a subcommittee of the House Energy and Commerce Committee that - with greater regulation - oil prices could drop to $65 or $70 a barrel within about 30 days.
"That's half of where prices are today, and gas prices would reflect that," he said.
Roger Diwan, an adviser to oil companies at Washington, D.C.-based PFC Energy, agreed that regulation could lead to a drop in prices. He said it would take no more than 30 days for speculation in the oil market to decrease and gas prices to fall.
With more regulation, "prices will reflect closer the marginal cost of producing oil," Diwan said.
The oil experts were in agreement that the ICE exchange which is unregulated by the Commodity Futures Trading Commission should come under its purview even though it's based in London and the CFTC agreed to let it be regulated by the UK. However, this has led to very lax regulation which experts feel has contributed to excessive speculation and the run-up in oil prices. It should be subject to the same regulation that the NYMEX exercises which limits the positions of speculators. Some suggested that those speculating in paper oil should be eliminated altogether and only physical hedgers (those who are actual producers or consumers of oil) should be allowed. Those speculating in paper oil have no intention of ever taking delivery.
A couple of the myths about what's driving up gas prices can be laid to rest. One is that the depreciation of the dollar is causing gas prices to rise. This is, if you think about it, ridiculous. Speculators are driving up the price of oil and they could care less if the value of the dollar is rising or falling. All they care about is making a profit for their hedge fund. If the dollar was rising instead of falling, they could be making an even larger profit by driving up the price of oil through buying and selling future contracts. Does it somehow make it more understandable and acceptable for gas prices to have doubled in the last year because hedge fund and sovereign wealth fund managers have to have a way of making up for the dollar's decline. So they wouldn't be speculating in oil and making a profit if the dollar hadn't declined? I think they'd be in the business of making money regardless of what the dollar was doing. Using the rationale that it's alright to drive the American consumer to the wall because the dollar has declined is patently absurd.
By the same token the rise in demand from China and India has not been 100% in the last year. The increase in demand has been more gradual than that and does not account for the dramatic increase in the price of oil. Then I've heard speculation defended on the grounds that it provides a legitimate function of "price discovery." Price discovery is the price that futures contracts for oil are traded on the last day of trading or, in other words, when the future becomes the present. All the producers of oil say, "Oh, I guess that's what we should sell our oil for," that is the oil not under contract which represents the "spot" market. So the price of oil on the spot market is set by the price of the futures market on the last day of trading. But why is this so? Why shouldn't it instead be set by the supply and demand fundamentals as it is, for example, on the spot market for bushels of wheat and other farm products. And those holding future contracts would then either make or lose money depending on market fundamentals. In the oil market the tail is wagging the dog! The answer is that the price was never set by market fundamentals of supply and demand but by the OPEC cartel, and they found it convenient for their own reasons just to "set" the price of oil on the spot market to the price of the futures contracts on the last trading day. For the market to work in accordance with the laws of supply and demand, 1) futures contracts would have to be a small percentage of the total market and 2) the spot market would have to be set by supply and demand and not the OPEC cartel or the future contracts.
Since futures contracts dominate the oil market, the spot market is set by them and not the reverse as is the case in the commodities market for farm products. This is because speculative money has not invaded the commodities market for pork bellies or bushels of wheat, and there is no cartel in these markets.
In a scramble to find a fix for energy prices, Congress has tried (and failed) to strip tax breaks from Big Oil, to open protected sites for exploration and drilling, and to jump-start a new era in nuclear power.
Now, Capitol Hill is zeroing in on speculators and the legal loopholes that some lawmakers say are adding as much as $70 to the price of a barrel of oil.
"Energy speculation has become a fine growth industry and it is time for the government to intervene," said House Energy and Commerce Committee Chairman John Dingell (D) of Michigan, at hearing on Monday.
Fixes in the works on Capitol Hill range from new constraints on speculators – including a 50 percent margin requirement on financial speculators, full disclosure of all trading by investment banks in all markets, and prohibiting investment banks from holding energy assets – to more funding and regulatory mandates for the Commodity Futures Trading Commission.
Financial speculators – that is, hedge funds, investment banks, and other traders who do not take physical possession of the commodities – are surging into commodities markets. On that point, there is no dispute.
Will any meaningful legislation reigning in speculators ever get through Congress and get signed into law? Don't hold your breath during the Bush administration's remaining days. Meanwhile, the American people will continue to suffer every time they fill up their gas tank. Republicans continue to float straw men as the reasons that oil is so high and blame it on the Democrats. Their contention that drilling in ANWR will bring down gas prices is ridiculous although they continue to sell it to the American people. First the oil companies would only drill in ANWR when it suited them and not tomorrow even if the government gave them the leases today. The oil companies have leases and drilling rites galore in the US and they are not rushing out to increase supply by drilling in them. In addition they even have already drilled and capped wells. All they would have to do is take the caps off and start pumping, but they choose not to do so. Instead they go on a campaign to gain even more leasing rights (in ANWR) so they can exploit them in the future at a time of their own choosing when profits would be higher.
Meaningful legislation to regulate oil speculators could cut prices at the pump in half within 30 days according to the experts, but this was not even considered newsworthy enough to be reported on the evening news on CBS, NBC or PBS. I didn't check NBC. With Republicans filibustering any meaningful legislation and Bush vetoing anything getting through that, nothing will be done to lower gas prices until a Democratic administration takes over and maybe not even then unless the Democrats have a filibuster proof Senate.