Flip Flop at the CFTC

My first day on the floor of the Chicago Merc was memorable, but not for the excitement brought on by elbowing my way around the crowded pits.

Within my first 15 minutes on the job I found myself face to face with Sam Cali, who was the focus of an FBI probe. The G-Men had taken field agents and stuck them in the pits, and they eventually put away a few floor traders who were making pre-arranged trades among themselves. Hard to figure how they got caught, given the narcs stood out like Dick Cheney at an Obama rally. But there have been shenanigans in the pits since there were pits.

A few weeks ago the CFTC and the various exchanges were defending their respective turfs, and denying accusations of manipulation, but the CFTC has since folded like a tent:

....the Commodity Futures Trading Commission held a public meeting of its Energy Markets Advisory Committee on June 10 to discuss why oil prices have doubled since last June.

For the first time in a public forum, representatives from investment banks Goldman Sachs (GS), Morgan Stanley (MS), and JPMorgan (JPM) explained their banks' involvement in the oil futures market. Elected officials and consumer groups have questioned whether banks' investment of pension and other institutional investors' funds could be bidding up oil prices, even as the research arms of those same banks issue predictions that prices will surge. Business Week

Ole Slorer, Morgan Stanley's energy services analyst, is an expert on dayrates equipment firms can charge their E&P clients.

However, last week he issued a dramatic market moving prediction on the price of oil, and seems to have become nearly as powerful as Arjun Murti, Goldman’s wonder boy who has become a must read for energy bulls.

I found the timing of Slorer’s call curious, given it came on the heels of a CFTC press conference that mentioned Goldman and Morgan by name.  But when it appeared they were off the hook, they did not waste any time issuing a bold call, and now the brokers are busy defending their actions (over the past few months) to the regulators in a public forum:

Wall Street executives took pains to address the allegations that they are making money with one hand while stoking the oil-price fervor with another. “There is a clear separation between our research and trading departments,” said Donald Casturo, managing director of Goldman Sachs. “[The firm] is acting within the terms of the law.”

The brokers can ill afford to lose the revenue and profits their commodity segments are generating, given their other divisions are running on empty.

Personally, I am having trouble reconciling some of the recent moves in commodities. I am well aware of the bull case, some facts cannot be disputed.

In the year 2000 there were less than 50 commodity hedge funds, and now we have almost 500. Nothing wrong with that, and getting ahead of the tsunami flow of assets was certainly a profitable theme, but it points out the impact.

And copper prices have traditionally been a great forecaster of recessions. But copper trading would seem to indicate there is a boom on, which is certainly not the case in the U.S., Europe and Japan, which are flirting with recession territory.

And while parsing the impact of the BRIC countries is beyond the scope of this website, my extensive conversations over the years with a longtime Phelps Dodge IR/PR consultant would seem to indicate that hedge funds long ago overwhelmed the sleepy copper trading at the London Metals Exchange (LME).

According to research at Gann Global Financial, in the past century there have only been 13 instances when a commodity, traded on U.S. exchanges, went up more than 500% in a single cycle.

But in this cycle might be the greatest bull market ever, given that we have already witnessed 8 commodities gain more than 500%, led by heating oil’s 1300% increase.

Thematic investors have made a killing, and have caught the biggest bull market in the last century. If a recession in the OECD countries cannot stop the move, I am not sure what will. But I see smoke wafting around, and if there is a fire, an eventual correction in commodities will be vicious.

Timing a correction correctly might become the next great profit opportunity on Wall Street, and this debate is beginning to become more acrimonious than anything to do with Bear Stearns or Lehman.

Regulators, right or wrong, are sure to add a new wrinkle to trading these contracts:

Traders worry that Congress’ proposals to clamp down on speculation will gum up markets. “We have to consider the costs of regulatory actions,” said Mark Stainton, head of Citadel Investment Group, a hedge fund with investments in energy commodities. “We now have a liquid and transparent market that benefits traders and the end consumer. …We don’t want regulations to cripple the [commodities] industry.”

My first trading jacket was sewn with a patch that read “Free Markets for Free Men”. The jacket, and Jack Sandner’s firm, are long gone. And it appears the concept might be as well.

The pragmatic peeps on the Street will realize that, sooner or later, there might be a trade there.
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CFTC Commissioner Bart Chilton speaks with Alexa Glick about his search for a smoking gun. Good luck with that, Bart:

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Oil Traders: Don’t Fence Us In
Business Week
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The content contained in this blog represents the opinions of 1440 Wall Street. This commentary in no way constitutes a solicitation of business or investment advice. It is intended solely for the entertainment of the reader, and the author. No Positions

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