What's Good—And Bad—About Obama's Plan: Kilduff
The energy market feared the sting of getting caught up in election year politics Tuesday morning, when it was announced that President Obama would proffer several proposals to increase oversight of the energy markets.
The call by the President for increased funding for the Commodity Futures Trading Commission is legitimate. The growth in commodity markets trading and the level of sophistication have grown markedly over the past decade. For example, the New York Mercantile Exchange used to trade a handful of contracts, including crude oil, heating oil and natural gas.
If you go to the CME website today, they are scores of indexes traded and cleared on price points around the globe across all energy commodities. Funding for the CFTC has not kept up in the least.
As far as increasing the penalties on those who manipulate the market: as they would say in the Old West, hang ‘em high. The damage those actors do to these important markets cannot be overstated.
The final tenet to President Obama’s suggestions was a call to allow the CFTC the ability to increase margins to ensure the market participants have the money to make good on their trades.
There has been a suggestion by some that by merely increasing margin requirements, traders would somehow pull back from these markets and prices would fall. This assertion attempts to blame the price discovery mechanism or the markets themselves for the underlying conditions that produce the prices being paid by traders.
What is likely is that increasing margin requirements will only reduce liquidity in the markets, causing them to be more volatile and extreme.
Crude oil supplies are routinely under threat from governments that want to control the spigot and disaffected populations that want a bigger piece of the oil riches, if not outright revolution.
In the U.S. the refining industry is undertaking a shakeout, by shutting plants, which is only rivaled by the tumult in the airline industry. Meanwhile, overall global demand has gone nowhere but up, year after year. And it looks to continue to do so.
Regarding the effort to ensure that traders have the money to make good on their trades, the clearing broker and the exchange clearinghouse already ensure that this is done because their capital is at risk, if there is a shortfall.
The margin money required for futures contracts is merely a deposit on your ultimate obligation to satisfy the price difference on your purchase and sale. The exchanges use a sophisticated algorithm to determine the appropriate level of market protection and functioning. Margin requirements are based upon several factors, including the price volatility of the underlying commodity.
The futures markets are brutally efficient. With commodities, if you want lower prices, make more and use less. Where is the credit for the speculators in getting natural prices down upwards of 90 percent in just a few short years? Also, any farmer will tell you that the best fertilizer is high prices.
In the case of crude oil, the prices paid in the market reflect underlying conditions that range from basic supply and demand to geopolitical threats and monetary policy, just to name a few.
So, to paraphrase, the fault of the high gasoline prices lies not with the speculators, but with ourselves.
John P. Kilduff is Partner at Again Capital LLC Ltd. He's also a CNBC contributor.