CFTC Holds Hearings on Oversight of Energy Trading

Michael Giberson

Yesterday, the Commodity Futures Trading Commission held a hearing to discuss whether it should increase oversight of energy trading on currently exempt commercial markets. Interest in the topic was heightened by disclosures related to the Amaranth Advisors LLC blow up last year, when it was determined that Amaranth sought to manipulate the price on NYMEX to influence the value of positions the investment group had on the InterContinental Exchange.

The Associated Press reported the contrast in views among the CEOs of the two major trading exchanges:

Jeffrey Sprecher, chairman and chief executive of the unregulated InterContinental Exchange Inc., told the commission that some heightened government scrutiny may be appropriate but that a “one size fits all” approach would be misguided.

James Newsome, president and CEO of Nymex, said a legislative change is “necessary and appropriate” since the CFTC cannot force exempt exchanges to self regulate or follow other trading limits and accountability standards.

Some lawmakers also want energy market trades regulated to protect consumers from further multibillion-dollar collapses like the one that struck hedge fund Amaranth Advisors LLC last September.

While most of the attention was on energy trading, metals, chemicals and other commodities also are traded on exempt exchange. The AP story:

Craig Donohue, CEO of CME Group Inc., the world’s largest derivatives exchange, disagreed. He said all exemptions for electronically traded contracts should be eliminated because there is potential for price manipulation in all unregulated markets, not just energy.

Richard Shilts, director of the CFTC’s division of market oversight, said his office spends a “disproportionate amount of time” with the exempt markets due to a lack of the routine relationships it enjoys with regulated exchanges.

The Energy Legal Blog recently noted that the CFTC may find itself coming down on the side of alleged market-manipulator Amaranth and its former chief energy trader Brian Hunter, but only on the narrow issue of whether the jurisdiction of the Federal Energy Regulatory Commission extends to transactions on futures exchanges.

FERC and the CFTC both filed market manipulation charges against Amaranth earlier this year (and both also filed manipulation charges against Energy Transfer Partners about the same time). FERC asserted authority under the first use of power granted in the Energy Policy Act of 2005 as well as on the theory that many FERC-jurisdictional contracts trade at prices benchmarked to NYMEX settlement prices.

ADDENDUM: I was re-reading the post and it struck me what was wrong with the comments of Donohue’s comment (“potential for price manipulation in all unregulated markets, not just energy”).

At least in the Amaranth case, all the alleged manipulation took place on the regulated market — NYMEX — and not on the exempt exchange ICE. Of course, Amaranth’s large position on ICE provided the company an incentive to try to push prices down at NYMEX, but any off-NYMEX position, physical or financial, could provide such an incentive. Part of the issue is that ICE contracts are tied to the NYMEX settlement price, but positions held at ICE don’t directly contribute to the liquidity of NYMEX contracts.

Part of the issue is the relatively narrow period of trading that NYMEX used to calculate settlement prices. This market problem is partially self-correcting, since other traders rapidly caught on to Amaranth’s game, and the second and third attempts at running the price down in the last few minutes of trading were much less successful. In effect, after the first surprise, all Amaranth succeeded in doing was insuring that energy traders couldn’t go home early on a few Friday afternoons.