Supplementary memorandum from Mr Chris
Cook
OIL MARKET REGULATION—CLEARING THE
WAY?
Having been privileged to have had the opportunity
to give evidence to the Treasury Select Committee yesterday, and
of hearing subsequent evidence form FSA and ICEFutures Europe,
I have the following observations and suggestion.
Firstly, that "speculation" is financial
and transient in nature: that is to say, that it does not involve
the underlying "physical" commodity, and it is entered
into principally for a transaction based profit or gain, unlike
"investment" which is entered into principally for a
medium or long term income.
Secondly, that "manipulation" everywhere
and always involves the underlying physical market, and also either
derivatives—whether traded on or off exchange—or borrowing,
to finance hoarded commodities.
It follows that if there is a bubble in the
oil market—it will have been inflated, like all bubbles—by
the "gearing" which arises either from margined futures
contracts, from borrowing, or both.
Thirdly, that regulated futures markets should
be as transparent as possible, and that limits on positions—which
in my view, and that of other witnesses—need not be prescriptive—are
only of any regulatory benefit where contracts are deliverable,
and then only in the proximity of contract expiry in order to
ensure orderly contract performance.
Finally, I confess I was almost sorry for the
Financial Services Authority, who were sent away to do their homework
and return to the Committee with satisfactory information in relation
to transactions in the physical and "OTC" markets which
is where—as I stated—the evidence of a bubble, if
there is one, must lie.
The problem for the FSA is that this data is
for the most part inaccessible—because the relevant market
participants are unregulated, offshore, or both—or accessible
only with difficulty by interrogating intermediaries.
It is the market data in respect of the "Brent
Forties Oseberg & Ekofisk" ("BFOE") forward
contract—and related derivatives, deliveries and associated
transactions in the physical market—which would be the evidence
of any "bubble" in oil markets today, since over 60%
of global oil transactions are priced against the "Dated"
or "spot" BFOE delivery prices that result.
Again, as I pointed out, the "light touch"
oil market regime introduced at the dawn of regulation in 1986
may have been appropriate for a Brent market then used almost
entirely by physical market "traders" and "hedgers".
However, such a "light touch" regime is now clearly
inappropriate for a market where participation by "Wall Street
refiner" investment banks is pivotal both on their own account
and as "Prime Brokers" for hedge fund counterparties.
If it is considered that less than seventy 600,000
barrel cargoes of BFOE quality oil are now produced each month
and that this number is in secular decline, then it will be seen
that even though the monthly value of perhaps $4 billion is large,
it pales into insignificance against the tidal wave of money—$260
billion is quoted—which has swept into the energy markets.
In other words, the potential for manipulation is much greater
than is generally realised.
There can be little doubt that the BFOE market
constitutes a "Global Loophole" rooted in London. But
what can a national regulator do about trading in a global market
like this?
Precious little, is the answer. While the absence
of transparency suits both producing nations and intermediaries
for differing reasons, I believe that it is urgently in the interests
of oil consuming nations everywhere to insist upon global transparency
in this market.
That this is possible is one of the lessons
I learned in developing a generic transaction registration mechanism—"OilClear",
"Metal Clear" etc some ten years ago in the heady days
of the Dot Com boom. That this is a good idea is demonstrated
by the fact that ICE has implemented it in the form of their proprietary
eConfirm system and that NYMEX recently announced their participation
in another proprietary system ConfirmHub.
When, rather than if, the Committee do not receive
the information they seek, it would not be productive (although
it may be satisfying) to then pillory the FSA for what is a structural
market deficiency. The problem is that national regulators like
the FSA and CFTC, have been given the responsibility, but not
the power, to police global markets.
What then is the solution? I believe that oil
consuming nations should lead the foundation of a global "market
transaction registry" to be held in the neutral hands of
a "Custodian". In fact, the UK Futures and Options Association's
current proposal for a new UK wholesale electricity market takes
exactly this "custodial"—as opposed to proprietary—approach
to market data.
Exclusive use of such a registry could then
be for members of an "International Energy Trade Association"—essentially
a market user group. The outcome would be to enable regulators
globally to access the data they require to enforce agreed market
standards. Moreover, and crucially, it would also give them the
enforcement "teeth" they lack simply through the power
to exclude participants temporarily or permanently from membership
of IETA and thence from being able to register transactions.and
participate meaningfully in the market.
July 2008
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