Managed futures programs – alternative-investment vehicles that enabled professional money managers to take positions in a wide variety of securities and derivatives – posted strong returns in a year that was marked mostly by investment losses. The average managed futures program returned about 14%, according to the Barclay CTA Index, and 11.4% as measured by the Stark 300 Traders Index.  By comparison, theStandard & Poor’s 500 Index and the tech-laden Nasdaq Composite Index each plummeted nearly 40% in 2008, while the Dow Jones Industrial Average nose-dived 33.8%.

Computer-Based Trading

Managed futures funds are managed by commodity-trading advisors, or CTAs, who monitor and trade in up to 150 to 200 different futures markets that run the gamut, including such asset classes as:

• Stocks.
• Fixed-income investments.
• Currencies.
• Agricultural products (commodities).
• Metals.
• Energy products (including – but not limited to – crude oil).

The positions the traders take can either be “long” (buy the underlying asset) or “short” (sell the underlying asset), based on expectations of future price movements.  These managers often employ “leverage” – using borrowed funds to buy on margin – which allows them to maintain larger positions in the underlying assets than they otherwise would be able to if they paid upfront in full. Buying on margin is a tactic that can dramatically increase returns when the manager has made the correct market call, but which likewise magnifies the losses when the investment manager is wrong

CTAs typically trade managed futures using a systematic investment process based on the pricing trends of the underlying markets.  Most traders do not consider overall market fundamentals. Nor do they study reports that depict the latest statistics on the global markets or the supply-and-demand dynamics for the various commodities. Instead, they use computer-based algorithms to create models that detect pricing trends and look solely at technical factors behind the numbers.

Linus Nilsson is a senior analyst within the Managed Futures Team atMan Investments (OTC ADR: MNGPY), a global “fund-of-funds” manager that allocates about $2 billion to externally managed futures funds. Nilsson points out that virtually all underlying manager trades are directional in nature using an unbiased strategy and says that CTAs are just as likely to be short as long in any given market.

“The computer-driven model tells them what to trade, when to trade, which side to trade, and when to get out of those positions,” Nilsson said. “Managers look at technical price trends, rather than fundamentals, and then manage the risk around those trends.  Everything is price-based and we generally focus very little on macro issues.”

According to Nilsson, managed futures perform very well during prolonged crisis situations, though high volatility is not imperative for trends to be established and profitable trades to exist.

“As long as you have trends that are exploitable, managed futures funds will make money,” said Nilsson.  “Looking at the equity markets from 2002 to 2006, basically we had a very smooth non-volatile trend and CTAs were able to take advantage.  Likewise, crude [oil] rose from 2006 to mid-2008, a nice trend that saw prices continue to print new highs all the time.”

By contrast, Nilsson claims that managed futures funds also benefited from the dramatic reversal in the prices of energy and other commodities over the second half of 2008.

“After a little pain, CTA models recognized the shift in prices, realigned fund allocations, and went short to the end of the year to take advantage of the new trends. It was a beautiful environment for managed futures.”

Paul Wigdor, president of Superfund USA Inc., a public managed futures fund that oversees $1.7 billion in assets apportioned across 18 countries, confirms that his firm’s managed futures product incorporates no fundamental overlay and the traders’ personal views do not influence buying or selling decisions.  They seek price trends in the marketplace and rely on technical factors which suggest whether markets should go up or down.

“We use a fully systematic trading system that is all computer-driven, black box-driven, quant-driven … whatever you want to call it,” Wigdor said. “We don’t care about embargos or what news may be coming out of the Middle East or China.  Our systems look only at price and consider such factors as volatility, resistance and support levels, relative strength indicators, moving averages, and how they all interrelate.”

Wigdor also points out that his firm’s fund has an exit strategy every time a trade is made so the managers are better able to control the risk.

“We put a ‘stop limit’ in each time we take a position,” Wigdor said.  “When a trade moves in our favor, we may ratchet up or down our stops as appropriate.  When the models pick up that the trend has reversed, we get stopped out of trades and losses are limited.”

Removing Emotion From the Investing Equation

Curtis Lyman, managing director of HighTower Advisors LLC, and principal of its West Palm Beach, Fla.-based Alpha Wealth Division, recognizes the need for some trend-following quant-driven modeling as part of his asset-allocation process.  He believes that rules-based computer-driven trading often makes the most sense and is comfortable including managed futures within his clients’ portfolios.

“Frankly, the ‘black box’ is one of the reason we use managed futures,” said Lyman.  “We like the fact that a portion of our portfolios loses the human element altogether and we would be far less comfortable if a manager had the ability to swing from a chandelier and load up on one position or another based on emotions.”

In Lyman’s opinion, quantitative trading allows for a pretty good control of risk, at least for that allocation of the portfolio.

2008: A Study in Stock Market Chaos

For investors who want to gain an understanding of managed futures as an asset class, Superfund’s Wigdor believes that 2008 stands as an effective case study for how managed-futures programs are supposed to work.

“In the first half of the year, we were long commodities across the board – everything from gold, oil, corn, soybeans, wheat, and oats,” Wigdor said.  “We were also long currencies from commodities-oriented countries like Canada and Brazil.  If you remember, money was flying into long-only commodities products and they did very well during the first six months of 2008.”

Wigdor is quick to remind his investors that these positions were established because of the pricing trends of these commodities markets and the computer-driven models did not consider fundamental issues whatsoever.

“In July and August, we experienced a big correction in commodities,” he added.  “Oil plummeted; others markets followed.  Our stops got triggered, though not until we suffered sizable drawdowns, or peak to valley declines.”

Wigdor explains that computer models never try to pick the absolute top or bottom of any market, but are merely trying to capture the majority of the price movements.  He notes that portfolios will always experience some giveback when markets reverse as the models attempt to validate that the trend has ended.  While long-only funds may also recognize the price shifts, they are not set up to take advantage of the reversal.

“There is always going to be some lag time as the models determine if the trend has reversed or this shift just represents noise in the markets,” Wigdor said.  “By October, we reestablished positions and this time were short many of the same commodities markets that we had previously been long.  We continued to be short equities and interest rates and finished the year with returns of 30% and 46% in our two U.S. funds.”

Likewise, Nilsson said that Man Investment’s investors benefited from exposure to managed futures in 2008, since that asset class was one of the few that actually delivered positive value to investors.

“A large number of CTAs did very well in 2008 and managers who were short equities throughout the year, and were fortunate to be long commodities early and shift to short positions late, were greatly rewarded,” Nilsson said.

Investors have seen a number of “false starts” this year, but Nilsson says he sees several promising possible trends and said the fund is slightly short the U.S. dollar and generally short sovereign debt.

A Competitive Comparison

Nilsson also believes that many investors have shied away from managed futures because of the miconception that it’s an especially risky asset class.  In reality, he believes that CTAs are actually better able to control risk, particularly in volatile environments like those experienced last year and in the first part of 2009.

“Dating back to the 80’s,  managed futures actually have similar risk profiles to equities and, at times, they are much more stable,” Nilsson said.  “Plus, they often outperform the more traditional asset classes over time.”

The following chart with data from both Stark & Co. and Bloomberg LLC depicts the risk/reward profiles of both managed futures and U.S. stocks.

Hightower’s Lyman admits that volatility, at times, can be quite high in managed futures funds, though these days, everything is relative, especially given the intense price movements in traditional stocks and bonds over the past year.

“Investors really must look at managed futures from a longer-term perspective of at least five years,” Lyman said.  “You have to give [the programs] time to work.  In fact, during periods of big drawdowns in managed futures, other asset classes are probably doing well because of the non-correlation characteristic.  Bear in mind, the addition of managed futures to a well-balanced portfolio will most likely lower its volatility and enhance its returns over time.”

Not Just for the “Rich and Famous”

Historically, managed futures has been an asset class reserved almost exclusively for institutional players and high-net-worth investors qualify as “accredited investors” – meaning they have an income of several hundred thousand dollars and a net worth of more than $1 million. Lyman believes that certain liquidity issues still prevent many smaller investors from participating.

“While the underlying futures markets are very large and liquid, most of the managed futures products themselves trade in L.P. (limited partnership) structures which often do not provide the daily liquidity that is important for many investors,” Lyman said.  “Instead, participants typically can access their money by selling units on a monthly or quarterly basis, as predefined by the managers of the fund.”

Lyman sees some opportunities for traditional retail investors to diversify into managed futures through mutual funds that may provide daily liquidity, but he does not believe that many of the biggest and best managers will offer access through investment vehicles of that type.

“To get daily liquidity, these managers may have to disclose insight into their trading methodologies,” Lyman said, noting that most managers would be reticent to share such closely guarded proprietary information.  “Through mutual funds, retail has certain tools available to access this asset class, but the products are not exactly the same as those available to accredited investors.”

Superfund’s Wigdor likes the idea that the asset class has been democratized and that more investors now have the opportunity to invest in managed futures.

“What sets us apart from other managed futures firms is that we concentrate on providing greater access to many types of investors.” said Wigdor.  “Right now, we offer monthly liquidity with no holding periods, no lockups, no short-term redemption fees.  We continue to work on making this alternative investment more mainstream and therefore available to previously uptapped markets.”

And given the recent risk-adjusted performance relative to more traditional asset classes, greater access may be a pretty good thing.

Source: Managed Futures Programs – Once Restricted to the Wealthy – Are Going Mainstream

[Editor’s Note: This is Part II of a two-part story.  To read Part I, which appeared yesterday (Thursday), please click here.]

His logic is simple. Thanks to record high oil prices, sheiks and regulators will look to “fix” the oil market. This fix, while probably reducing prices, will actually help oil producers better determine true supply and demand.

This from Taipan:

Ride OPEC’s outrage to 70% gains

“I am shocked – SHOCKED – to discover that there is gambling going on here.”
– Captain Renault (Claude Raines, Casablanca, 1942)

That just might be my all-time favorite movie line. Bogart aficionados know it was exclaimed by Claude Rains’ jolly Nazi collaborator, as he simultaneously collected his ill-got gambling gains and closed down Rick Blaine’s casino.

The reason I love it is that it so well captures this sort of hypocrisy. The line is so perfect it’s downright archetypal. Take most any week’s news and you will read some dolt somewhere echo its sentiments.

The Fly in OPEC’s Ointment

For example, just yesterday, the secretary-general of the Organization of Petroleum Exporting Countries, one Abdalla El-Badri, called upon the regulators of the world’s futures markets to do something about all the rampant speculation on his client’s precious crude oil.

Prior to attending this week’s big confab in Davos, Switzerland, El-Badri opined via e-mail that “OPEC has repeatedly called for the need to reduce the role of excessive speculative activity in the market. Today, it is impossible to know who is actually buying and selling oil futures.”

In case you somehow missed it, allow me to sketch out a brief history of the events that have El-Badri so hot and bothered.

Some Is Good…

Oil had been making overall advances in price for most all the seven years that the folks in the Oil Patch held the White House (and perhaps more importantly, the Old Executive Office Building, from where Vice President Cheney appears to have been determining most of our energy policy). But even that steady creep didn’t hold a candle to the excesses of volatility we experienced in 2008.

The first half of the year saw crude oil surge some 46%, an incredible increase in view of the fact that there were no material events genuinely impacting supply or demand in that time. Sure there were the usual storms, strikes and minor military skirmishes that encumber most any trading season. But in the end, none of this actually impacted supply in any serious fashion.

Meanwhile, on the demand side, we now know that the U.S. economy was already well ensconced in recession. And yet, prices at the wellhead and gas pump continued to skyrocket.

But Too Much Stinks

If you want to find the mysterious driving force for this first-half-2008 spike, you need look no further than the trading floor of the New York Mercantile Exchange. By March of last year, speculators had racked up some 115,145 net-long crude future positions (as per those fine folks at the CFTC, who supposedly regulate this market).

Now, one would imagine those other fine folks at OPEC would enjoy seeing prices climb that high. $147 per barrel will buy you one heck of a new marble-and-gold palace, or perhaps even forestall a revolution amongst your eternally beleaguered poor another year or two.

And yet, this sudden largesse was making the folks at OPEC increasingly nervous. You see, they had been down this road a time or two before, and had learned a critical lesson along the way.

Waking Up Dead

Have you ever boiled a lobster? (Stick with me here: it’s germane. Really!) If you dump the wrigglers into boiling water, they thrash about and panic, supposedly spoiling their delicate flavor. (Not that anyone can really tell under all that butter.)

No, the trick is to place the live lobster into a pot of cold water, and then slowly raise the temperature. Little fella doesn’t even notice until he wakes up dead, as it were.

The same is true of crude oil consumers. Crank up prices an average of four bits a year for the better part of a decade, and no one says boo. Spike prices 50% in one season, however, and suddenly folks are looking to change their habits.

Change for the Better?

Last year, that’s exactly what happened. Miles driven were cut back to levels unseen since the 1940s. Thermostats were dialed back, electric lights turned off, and massive SUVs sat languishing on auto sales lots.

By mid-July, the folks at the NYMEX were forced to switch trading direction, with floor contracts showing a net short position for the first time in decades. By November, the CFTC showed 52,984 contracts speculating on further price drops.

And drop it did. By December, we were seeing crude futures in the high $30s – an astounding fall of nearly 75%. As anyone in any capital-intensive biz will tell you, this is no way to run a railroad.

Or a Turn for the Worst?

This whole affair drives the oil types nuts for a myriad of reasons. First of all, it makes it darned hard to plan. Exploration and development take years and billions to work out. A field that seems reasonably worth exploiting at $60 a barrel may be a windfall at $120/barrel, a tax shelter at $50 and a bankrupting boondoggle at $30.

But you know what I think really bothers the sheiks, et al.? It’s a fair guess that the trading floor was an exclusive insiders’ preserve for decades. Now guys like El-Badri complain that wild-eyed speculators are raiding their private cellars: “Today, it is impossible to know who is actually buying and selling oil futures.”

When El-Badri and his cronies ask for “more transparency,” what they really want is more exclusivity and control. And seeing as how Washington is somewhat inclined toward “centralized command and control” these days (that was a joke, albeit a grim one), I do believe that they will most probably conspire with the sheiks and oil companies to shut the speculators out of the market.

I’ll Take My Winnings Now, Rick

Seeing as how we can’t stop this juggernaut, I suggest we ride it instead. A smoothly operating oil patch will most probably benefit all the usual suspects, so let’s start by picking up shares of the biggest, meanest fellow about. That would be ExxonMobil (XOM: NYSE). Or, if you would care to leverage a bit, you might do as we suggested to WaveStrength Options Weekly readers and purchase mid-dated, at-the-money calls against the same, looking for some 60% to 70% over the next month or two

Call me cynical, or just a pragmatist like our dear Captain Renault. I’ll take my winnings now, thank you.

Source: A Transparent Call for Control Over Oil Futures

Investors will be utterly confused today about what to fear most. First, you had the nightmare open in New York on Friday. The futures markets were limit down and closed briefly. By the time order was restored to electronic markets, the Dow opened down 6%.

The Dow rallied-if you can call it that-to close down “just” 3.6% on the day. A that point, you could safely say the market was ‘pricing in’ the fear of a global recession, and just what that would mean for corporate earnings. Not even an oil price of US$65-meaning lower prices at the pump-could cheer investors.

And then, this weekend, European and Asian leaders met and, “pledged to undertake effective and comprehensive reform of the international monetary and financial systems,” according to Bloomberg. China’s Premier summed up the argument for the 40 heads of state present by saying, “we need even more financial regulation to ensure financial safety.”

And thus a great debate unfolds in the weeks ahead of the November 15th G20 summit in Washington. Was the crisis a result of unregulated “cowboy capitalism”? Or did it have its roots in phony, government-regulated interest rates, which skewed corporate and personal incentives in favour of debt-based speculation? More that in a moment.

Did you see news reports that the RBA intervened in the currency markets? The Bank is trying to prevent the Aussie dollar from going “splat!” Truly, there are few currencies in the world that have fallen so much, so quickly. But why?

Chatting with Swarm Trader Gabriel Andre this morning, he said the seven-year up-trend in the Aussie-Yen currency pair has been completely reversed in the last three months. Kris Sayce will be running Gabriel’s comments in today’s Money Morning. What does it mean?

The currency pair is as good a symbol as any for what fuelled the global rise in speculation. You could borrow virtually for free in yen and invest in high-yielding currencies and assets. Those assets included Aussie stocks and the Aussie currency itself. The collapse of the yen and dollar carry trades is what’s behind the plummeting Aussie dollar.

Meanwhile, the government still hasn’t fixed the problem that’s mushrooming in the cash and mortgage fund market. Over $11 billion is still frozen in those accounts as the firms that run them try to work out a deal with the government. But what deal could there really be?

Investments in mortgage funds are not deposits in banks. By guaranteeing bank deposits, the government drew attention to the fact that investments always have risks, and that some risks cannot be insured against. You either take them and accept the risk (in exchange for the return), or you keep your cash in a safer, but lower-yielding security (or in cash, subject to inflation).

It would be nice if you could get a guarantee in life that you’d never lose money no matter what kind of decision you made. But no such guarantee exists. It just happens that we live in an age where no one expects to lose at anything, ever. This goes for kid’s soccer games as well as financial markets. But if there aren’t real winners and losers, you don’t have a real market.

Congratulations to our friends at www.businessspectator.com.au. The financial news and analysis site is turning one year old this week. It’s a precocious one-year old, though. And there is a lot of collected wisdom there.

For instance, Robert Gottliebsen recently made this chilling observation about the hedge fund meltdown, “The mortgage fund freeze has escalated the number of superannuation investors who are demanding to exit the managed fund equity system. At the moment it is containable but if the move to quit shares balloons we will see big forced selling of Australian stocks.”

Hopefully the mortgage freeze will end soon. Perpetual says this morning that it would like to end its freeze on redemptions as soon as possible. Exactly when that is is anybody’s guess.

As if the credit crunch and a global recession weren’t bad enough, investor now have to deal with calls by the Europeans and Asians for Bretton Woods two. Everyone wants a new global financial system. But it’s not like buying a new shower head or toilet seat, is it? You can’t just run down to the shops and get one, along with some beef jerky.

It’s obvious the current system is breaking down. Globalisation-made possible by cheap money and cheap energy-is contracting. You know for certain that governments, being blame artists, will blame markets. But it’s not the market’s fault. As with every bubble, from Tulips to the South Seas to the Mississippi Scheme, it’s people who pervert markets.

Sure, CEOs and corporations turned normal businesses into vehicles for private speculation. But that is a failure of management, not the market. More oversight by corporate boards and shareholders might have made for better discipline in risk taking. But discipline is exactly what people lose in a bubble.

The credit bubble was remarkable because it leveraged the interconnectedness of global markets, allowing investors to borrow in weak currencies and invest in high-risk, high-yield assets. It wasn’t a regional or even national bubble. It was the whole planet.

But in its other essential features, it is indistinguishable from previous bubbles, manias, panics, and crashes. One of those features in fact, is how governments and bad regulations actually enlarge, prolong, and generally abet the bubble. And in this one, because everyone had a stake in its expansion, everyone has tried to keep it going. The best example of this is the determined allegiance to the dollar-pegged world financial system.

The price of money is fixed by central banks via interest rates. For years, everyone followed the Fed’s lead in the U.S. and set the price of money below rate of consumer price inflation. Australian mined. China produced. Europe traded. OPEC pumped. The U.S. spent.

Global bubbles in all asset classes ensued. That is a failure of the highest order by the regulators of global interest rates. Now politicians see massive wealth destruction and blame free markets for screwing things up when it was the non-market price of money that touched off the crisis to begin with.

In any event, we’re going to get some sort of hogwash in the next month from the confab in DC. There will be more supervision of banks. It will probably lead to less bank lending and tighter credit. Hedge funds will be regulated. Many investors will anticipate this by taking their money out ahead of time. Redemptions will force more asset sales. Stocks will fall.

The International Monetary Fund will probably enjoy some enhanced status. The IMF is already bailing out a bankrupt Iceland. It will loan US$16.5 billion to Ukraine. Before it’s all over, we reckon Japan and China might even consent to loaning some of their huge dollar reserves to the IMF in exchange…for something.

We’re not sure what it would be yet. The IMF may become a super-bank with access to funding from central banks, a kind of supra-sovereign wealth fund in the service of a world government and regulation. That sounds…not encouraging.

Also, keep in mind that the entire strain of the crisis in the U.S. was generated by a politically desirable outcome in residential housing. The original mis-allocation of investment dollars came about because politicians insisted that banks make loans to people who couldn’t repay them. Market discipline was actively subverted by political opportunism.

The U.S. set up Fannie Mae (FNM) and Freddie Mac (FRE) with preferential borrowing terms so those two could buy up mortgages originated by the banks. The banks could sell the mortgages quickly, which put them in the position to fund even more mortgages and expand “home ownership” in America.

We all know how that’s working out. Median U.S. house prices continue to fall. The loans made to finance those homes are going bad. The securities made up of bundles of those mortgages are rotting, taking bank capital with them. And insurance sold against default in them is putting the sellers of that insurance into great difficulty.

Europe, for its part, has a brewing problem in emerging market debt. Austrian banks are exposed to sovereign emerging market debt to the tune of 85% of GDP. Swiss banks have emerging market debt equivalent to 50% of GDP. It’s 25% in Sweden, 25% in the U.K., and 23% in Spain. If more emerging markets go the way of Iceland and default on debt or go bankrupt, Europe’s banking system faces major trouble. Just what we needed. More trouble.

Dan Denning
for The Daily Reckoning Australia

Source: Europe Faces Day of Reckoning in Emerging Market Debt

There were three news stories, although all are quite well understood. Dollar weakness, the unexpectedly large US unemployment report, and the Iranian “story” from Israel all conspired to trigger the upward move. So far, so good. But it’s the same news as we’ve seen many times before. Nothing new, really. (139th story about the impending attack on Iran, for example… Yeah, right. I’ll believe it when I hear the bombs explode.)

But then came the short-covering that drove what would have been a $2 or $3 move into an almost $11 move. Hence the melt-up.

The normal reaction to the excessive advance is a retreat… and this is what we’ve seen early week — when retreated about $3/bbl.

By definition, the “futures” markets are all about the future.

In general, in the future people expect to see a weaker dollar and tighter supplies of oil that cannot meet projected demand.

The way to break this cycle is with a clear signal from the US Federal Reserve that it will defend the dollar. I’d like to see a 1% interest rate increase, with language that if this does not get the dollar on track then there will be more rate increases. This will hurt some parts of the economy (like housing). But it will salvage the rest of the economy. As things now stand, high energy prices are just going to kill off the bulk of the economy and destroy the American middle class.

But this monetary action is only half of the solution.

The other half is that the US govt needs to adopt a strong, production-oriented energy policy. Yes, the new policy must include the usual tributes to conservation & efficiency… as if high energy prices do not enforce and drive home the import of such virtuous behaviors. And the new policy should give wide leeway to windmills, solar, geothermal and 2nd generation biofuels. It’s a true shame to waste good coal or oil on something that you can do with a windmill. But you cannot run an economy on windmills, solar, geothermal and biofuels alone.

U.S. Dependence on Oil…

The US needs to focus on North American energy production, via oil & gas drilling in Alaska and offshore, plus “clean coal” technology, coal-to-liquid, oil shale development, gas hydrates, next-generation nuclear, and anything else that will work in the next 10-20 year time frame.

Just the announcement that the US is adopting this pro-production policy will shape the marketplace and tend to drive long-term prices down. The worst case is that it will sure moderate any future price increases.

There is an astonishing amount of energy technology out there, already invented and workable. The great challenge of the future is systems integration, to bring it all together and apply it to our problems. Integrate it, make it work and scale it up. This just takes a lot of hard work, with direction and incentive to achieve.

The first energy “system” that is broken in the US is the lack of coherent, national energy policy. We have to fix that.

And if we don’t defend the dollar, what’s the use? The dollar will die, and we’ll be calculating our energy transactions with seashells or pretty stones.

Best,

Byron King

Note: Byron King is a frequent contributor to the free e-letter Whiskey & Gunpowder. To receive daily insights into energy, oil, commodities and other natural resources sign up here!

Source: The Oil ‘Melt-Up’ and Why the U.S. Economy Won’t Run On Windmills Alone.

The world’s second-largest producer, Russia, is now experiencing a production decline. The Saudis can’t pump any more oil.

So forget hedge-fund speculation and the value of the dollar, that’s what it really comes down to.

And it’s why one German political party’s answer to the high oil price is, frankly, utterly absurd…

Why oil futures are vital to the world economy

Uwe Beckmeyer, transport chief for the country’s Social Democrat Party, has told the German press that his party would call for joint measures by the G8 powers to prohibit leveraged trading on energy contracts. “It’s an extreme step but it has to be done,” he said.

No it doesn’t, my friend.

So, let’s get this clear: One of the major German political parties wants to ban the futures markets in oil and related products as a way to curb prices. It is an utterly stupid and inept way of dealing with inflation and it will end up causing crises in many industries across the globe.

Imagine if airlines weren’t able to hedge their exposure to rising energy costs… any up-tick in energy prices would create a wave of bankruptcies across the sector.

Then there are the farmers. If they do not know how much they will receive for their crops, it makes it impossible to plan properly. After all, isn’t this why futures were derived in the first place?

Futures are not a high-risk investment strategy for manipulative mega-rich bankers. They are a way of REDUCING risk for people operating in the business. Ban futures trading and market risk actually increases.

It is a vital market that keeps the cogs of the global economy turning in a well-oiled and efficient manner. It also improves price transparency going forward, allowing businesses and farmers to effectively plan their finances.

It is clear that these proposals come from people who do not understand the futures market or what it is for.

Of course it’s not just the Germans acting dumb, the Indians and Americans have got in on the act as well.

India bans potato futures

The Indian government has already suspended futures trading in potatoes, chickpeas, rubber and soybean oil in an attempt to combat food inflation.

The move was derided by anyone with any sense. Not only did the ban cover four foodstuffs that made up just 1% of the country’s inflation index, but the price of potatoes has actually FALLEN 27% this year. The move defies logic on so many levels.

Even in that bastion of the free markets, the USA, politicians want to interfere.

Democratic Representative John B Larson has asked Congress to pass legislation which would prevent speculation within the sector from those who do not intend to acquire the commodities on which they bid. He argues that it is speculation that is driving the oil price, while completely ignoring supply issues.

The amount of speculation in the oil price is an unknown, but one thing is very clear…

Oil supply is extremely tight

Over the weekend, Lloyd’s Marine Intelligence reported that Opec oil shipments had fallen by 1m barrels a day in the four-week period to 4 May. Another oil pipeline in Nigeria was also blown up and a Norwegian oil rig operating in the North Sea was shut down after a leak was discovered.

What the Germans, the Americans and the Indians have to remember is that you cannot tell farmers or businesses what to sell and whom to sell to. That is a Stalinist way of running an economy that puts businesses in a straightjacket.

The derivatives markets also play a proper and important role in signalling the need to expand investment in production capacity. Vitally, it provides liquidity to hedgers.

Banning futures trading is a knee-jerk reactionary move by dumb politicians wanting to grab a headline. It is not the way to make markets work efficiently and the G8 should dismiss any proposals tabled.

I would be astonished if the US proposals were passed into law – it is just so “un-American”. Banning futures trading is an utterly preposterous idea. The only way that any limits on futures trading should be considered is when speculation becomes manipulation. This is certainly not the case at the moment.

Regards,

Garry White
Editor
Smart Commodities UK

Source: Why a Ban on Oil Futures And Speculation Will Devastate the Markets

“Farmers and food executives appealed fruitlessly to federal officials yesterday for regulatory steps to limit speculative buying that is helping to drive food prices higher,” according to the Washington Times.

In other words, the Commodity Futures Trading Commission is coming under pressure to “do something.”

While farmers here and abroad generally are benefiting from the high prices, even they have been burned by a tidal wave of investors and speculators pouring into the futures markets for corn, wheat, rice and other commodities and who are driving up prices in a way that makes it difficult for farmers to run their businesses.

“Something is wrong,” said National Farmers Union President Tom Buis, adding that the CFTC’s refusal to rein in speculators will force farmers and consumers to take their case to Congress.

“It may warrant congressional intervention,” he said. “The public is all too aware of the recent credit crisis on Wall Street. We don’t want a lack of oversight and regulation to lead to a similar crisis in rural America.”

In other words, if the CFTC doesn’t “do something,” Congresscritters will. And the CFTC seems disinclined to act.
Regulators said high prices are mostly the result of soaring world demand for grains combined with high fuel prices and drought-induced shortages in many countries…

“During such turbulent times, it is tempting to shoot first and ask questions later,” [CFTC Chairman Walter] Lukken said, but he contended the commission should be “cautious” about doing anything to curb speculation. He and other regulators argued that speculators add volume and liquidity to the markets, which makes them operate more efficiently and helps farmers and other players.

Left unspoken at the hearing, at least judging by this account, is the role of the falling dollar, something even middling UN bureaucrats are able to recognize. Of course, it’s an impolitic time for members of the CFTC to bring up the devaluation of the dollar, given how the people responsible for it could end up being their new masters.

Then a second news alert hit my inbox. The Fed had just lowered the discount rate from 3.5 percent to 3.25 percent. Was the Fed trying to calm the market? You bet they were. When news of BSC being sold at such a discount hit the street, futures dropped as much as 38 points. After the Fed announcement, they were down only 22 points.

You never know when the market will make an unexpected major move, up or down. That’s why I recommend being somewhat balanced between bullish and bearish positions. It is also the reason why you should take profits off the table on portions of your trades. If you take, say, a 50 percent profit on a third of your position, you will have limited your potential loss without limiting your gain if the stock continues to rise.

Though it was Sunday night and the equity markets were closed, the news was coming fast and furious and money was being made and lost. Bear Stearns dropped from $30 to $3.18 in one move. There was nothing traders could do unless they were trading futures, because S&P futures markets open at 5:30 p.m. Eastern Time on Sundays. Equity traders and options traders had to wait until Monday’s opening bell to know their fate. But those who had balance in their portfolios and had been managing their trades with partial closeouts didn’t have much to worry about.

Remember the phone call that Gordon Gekko makes to Bud Fox in the movie Wall Street that starts out with “Money never sleeps, Buddy Boy.” No kidding.

[Ed. Note: Rick Pendergraft is a professional trader and market analyst. In Rick’s new investment service, he reveals how you can make hundreds - even thousands - of dollars just by playing a simple game of "guess the pattern." Learn more here.]