Senate Floor Speech on the Introduction of the Over-the-Counter Speculation Act, S. 3255

Mr. President, today I am introducing, along with Senator Feinstein, the Over-the-Counter Speculation Act. This legislation will provide the Commodity Futures Trading Commission, CFTC, with the ability to detect and prevent price manipulation and excessive speculation. In the currently unregulated over-the-counter commodity markets, this legislation will close a major loophole in our commodities laws that prevents the CFTC from conducting oversight in certain enforcement activities and obtaining information about trading in the unregulated over-the-counter market. It will ensure that large energy and other commodity traders cannot use the over-the-counter market to hide from the CFTC, escape reporting requirements, or avoid CFTC enforcement authorities to require traders to reduce their holdings of futures contracts in order to prevent manipulation or excessive speculation.

This legislation is based on the work of the Permanent Subcommittee on Investigations, which I chair, regarding effect of speculation on rising energy prices. In 2006, the PSI study, called The Role of Market Speculation in Rising Oil and Gas Prices: A Need to Put the Cop Back on the Beat, [PDF] found the following:

First, over the past few years, speculators have dramatically increased their activities in U.S. energy commodity markets. Second, speculation has contributed to rising U.S. energy prices.

The 2006 report estimated that this increased speculation, particularly through commodity index funds, had contributed about $20 to the price of a barrel of oil which was then about $70, or roughly 25 to 30 percent of the price. The 2006 PSI report also found that CFTC access to daily reports of large trades of energy commodities is essential to its ability to detect and deter price manipulation. It recommended that Congress require reports of large trades on over-the-counter electronic exchanges. The 2006 report also recommended that Congress eliminate the Enron loophole to put the cop back on the beat in the over-the-counter electronic markets.

Since the 2006 PSI report, the amount of speculation has increased significantly and so have energy prices. In 2006, there was about $60 billion invested in commodity index funds. Today there is over $200 billion. Since 2000, there has been nearly a 1200-percent increase in the amount of speculative trading compared to only a 200-percent increase in the commercial trading world. Even this understates the increase in speculation, since the CFTC data classifies futures trading involving index funds as commercial trading rather than speculation. A large amount of speculative trading is taking place in the unregulated over-the-counter market. Many market experts believe this huge increase in speculation in recent years has boosted oil prices.

Last fall, as oil prices were nearing $100 a barrel--$40 a barrel lower than they are today--the president and CEO of Marathon Oil said:

$100 oil isn't justified by the physical demand in the market. It has to be speculation on the futures market that is fueling this.

Mr. Fadel Gheit, an oil analyst for Oppenheimer and Company, describes the oil market as "a farce."

The speculators have seized control and it's basically a free-for-all, a global gambling hall, and it won't shut down unless and until responsible governments step in.

In January of this year, as oil hit $100 a barrel, Tim Evans, oil analyst for Citigroup, wrote:

The larger supply and demand fundamentals do not support a further rise and are, in fact, more consistent with lower price levels.

That is when oil was at $100 a barrel.

At the joint hearing of my PSI Subcommittee and Senator Dorgan's Energy Subcommittee last December, Dr. Edward Krapels, a financial market analyst, testified:

Of course financial trading, speculation affects the price of oil because it affects the price of everything we trade ..... It would be amazing if oil somehow escaped this effect.

He said that as a result of this speculation:

There is a bubble in oil prices.

There is some concern that some large traders may be avoiding the limits on holdings and accountability levels that apply to trading on the futures exchanges by trading in the unregulated over-the-counter market. In the absence of data or reporting on the activity in the over-the-counter market, it is difficult to estimate specifically the specific impact of this large amount of unregulated trading on commodity prices. Moreover, even if we were to get better information about unregulated over-the-counter trades, the CFTC has no authority to take action to prevent price manipulation or excessive speculation resulting from this unregulated trading.

The need to control this speculation is urgent. Only yesterday the presidents and CEOs of major U.S. airlines warned about the disastrous effects of rampant speculation on the airline industry. The CEOs stated:

Normal market forces are being dangerously amplified by poorly regulated market speculation.

They further stated:

Twenty years ago, 21 percent of oil contracts were purchased by speculators who trade oil on paper with no intention of ever taking delivery. Today, oil speculators purchase 66 percent of all oil futures contracts, and that reflects just the transactions that are known.

So it has gone up from 21 percent purchased by speculators on these oil contracts, these futures, to 66 percent during this period, and that, again, excludes some of the transactions.

The CEOs wrote that:

For airlines, ultra-expensive fuel means thousands of lost jobs and severe reductions in air service to both large and small communities.

Earlier this year, Congress included legislation on the farm bill that closed the Enron loophole. This legislation closed one of the major regulatory gaps identified in the 2006 PSI report and then again in the 2007 PSI report on how a single hedge fund named Amaranth distorted natural gas prices through, in part, using the over-the-counter electronic exchanges that were not regulated under the Enron loophole.

The legislation to close the Enron loophole placed over-the- counter electronic exchanges under CFTC regulation. However, that legislation did not address the separate issue of trading in the rest of the over-the-counter market, which includes bilateral trades through voice brokers, swap dealers, and direct party-to-party negotiations. The legislation we are introducing today builds on that previous legislation and addresses the rest of the over-the-counter market.

Additionally, I have already introduced legislation with Senators FEINSTEIN, DURBIN, DORGAN, and BINGAMAN, S. 3129, to close the "London loophole." This loophole has allowed crude oil dealers in the United States to avoid the position limits--limits on their holdings--that apply to trading on U.S. futures exchanges by simply directing their trades onto the ICE Futures Exchange in London. The legislation we have introduced has been incorporated into legislation introduced by Senator Durbin, S. 3130, which also would give the CFTC more resources and enable them to better obtain information about index trading and the swaps market.

After these two bills were introduced, the CFTC imposed more stringent requirements upon the ICE Future Exchange's operations in the United States, and for the first time the London exchange imposed comparable position limits in order to be allowed to keep its trading terminals in the United States. This is the very action our legislation called for.

However, although the CFTC took those important steps that will go a long way toward closing the London loophole, Congress still needs to pass the legislation to make sure the London loophole is closed. The legislation would put the conditions the CFTC has imposed upon the London exchange into statute, and ensure that the CFTC has clear authority to take action against any U.S. trader who is manipulating the price of a commodity or excessively speculating through the London exchange, including requiring traders to reduce positions.

There are additional steps that need to be taken to address the issue of ensuring that increasing speculation in our commodity markets is not driving up commodity prices.

The legislation we are introducing today is a practical, workable approach that will enable the CFTC to obtain key information about the over-the-counter market to enable it to prevent manipulation and excessive speculation. It will provide the CFTC with the authority to take action in the over-the-counter market to prevent excessive speculation and price manipulation, such as by requiring large traders to reduce their holdings of futures contracts. It enables the CFTC to obtain information on large trades in the over-the-counter market so it can determine whether any trader or class of traders has excessive holdings that may affect market prices, and whether such positions should be reduced.

This legislation will ensure that large traders cannot avoid the CFTC reporting requirements by using the unregulated over-the-counter market instead of the regulated exchanges. It will ensure that the CFTC can take appropriate action, such as by requiring reductions in holdings of futures contracts against traders with large positions in order to prevent price manipulation or excessive speculation, regardless of whether the trader's position is on an exchange or in the over-the-counter market.

The approach in this bill is practical and workable. I thank Senator Feinstein for her important support of this legislation.

Mr. President, I ask unanimous consent, that a summary of the bill be printed in the Record.

There being no objection, the material was ordered to be printed in the RECORD, as follows:

SUMMARY

The Levin-Feinstein "Over-the-Counter Speculation Act" would give the Commodity Futures Trading Commission (CFTC) authority to direct a trader to reduce its positions in the OTC market to prevent price manipulation and excessive speculation in CFTC-regulated markets. To provide the CFTC with information necessary to prevent price manipulation and excessive speculation in these markets, it also would extend the large trader reporting requirement in the Commodity Exchange Act (CEA)--which currently applies only to trading on the regulated futures exchanges--to trading in the unregulated over-the-counter (OTC) market.

Under current law, the CFTC's market oversight and surveillance does not extend to the OTC market, and the CFTC's authority over traders in this market only applies if the trader has a position on one of the CFTC-regulated markets. This bill would extend the CFTC's market oversight and surveillance to large trades in the OTC market, regardless of whether the trader also has a position on a futures exchange, and provide the CFTC with the necessary authority to take action in the OTC market to prevent price manipulation or excessive speculation.

BACKGROUND

As a result of various exclusions and exemptions in the CEA and CFTC regulations, commodity trading in the over-the-counter markets is largely unregulated, although trading in these markets may have a direct and substantial effect upon the prices of contracts for future delivery of those same commodities on futures exchanges regulated by the CFTC. According to some estimates, trading of swaps and other instruments in the OTC market exceeds by several multiples the trading of futures contracts in the regulated futures markets.

There is substantial concern excessive speculation in the OTC market may be contributing to the extraordinary commodity price increases of the past several months. There is also concern that some large traders may be avoiding the position limits and accountability levels that apply to trading on the futures exchanges by trading in the unregulated OTC market. In the absence of data or reporting on the activity in the OTC market, however, it is difficult to evaluate the specific effect of this large amount of unregulated trading on commodity prices. Moreover, even if the data were to show that large trading in the OTC market is affecting prices, or that traders are using the OTC market to avoid position limits in the regulated markets, the CFTC has limited authority to take action to prevent any price distortions that may result from such trading.

EXPLANATION OF BILL

CFTC Oversight Authority. The bill provides the CFTC with authority to require large traders in the OTC market to reduce holdings, or suspend trading, in order to prevent price manipulation or excessive speculation.

Reporting of Large Over-the-Counter Trades. The bill requires the CFTC to promulgate regulations requiring the reporting of large OTC transactions in order to detect and prevent potential price manipulation or excessive speculations.

Recordkeeping for Large Over-the-Counter Trades. The bill requires the CFTC to promulgate regulations requiring the keeping of trading records by persons required to report large OTC transactions.

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