From the June 01, 2011 issue of Futures Magazine • Subscribe!

The spec limit debate

While for many, the controversy over the spike in crude oil faded with the credit crisis and efforts by the Treasury and Federal Reserve to save our banking industry, others were stuck on the notion that speculators were to blame, and once our banking sector moved away from the brink and commodity prices began to rise off the crisis lows, the focus returned to speculators.

Excessive speculation was blamed and restricting or limiting speculative access to the market was viewed by many as a solution.

The authority of the Commodity Futures Trading Commission (CFTC) to set position limits has been an issue debated for a long time. The CFTC has held hard limits in agricultural commodities for many years. For other commodities the exchanges set hard spot-month limits and position accountability levels. The Dodd-Frank Act attempted to end any confusion by addressing position limits. CFTC Chairman Gary Gensler said, "The Dodd-Frank Act expanded the CFTC’s authority to set position limits and also directed us in a more clear way to actually do that and expanded it to [OTC] derivatives as well in something called aggregate position limits…"

Dodd-Frank called for limits in 180 days for energy and metals (that did not have specific CFTC limits) and 270 days for agricultural products. The CFTC missed those deadlines but on Jan. 26 put out a notice of proposed rulemaking.

A common complaint by exchanges during the run-up to the rule proposal was that listed contracts acted properly and that position limits on listed futures would push business to the over-the-counter market and overseas; it would not affect excessive speculation, if it even existed, but simply push speculation to other venues.

Dodd-Frank addressed this by directing the CFTC to propose position limits in physical commodity futures contracts as well as swaps that are economically equivalent to those contracts. The proposal covers 28 exempt and agricultural commodities (see "Limiting exposure"). The exempt commodities are the energy and metals contracts that previously did not have CFTC limits.

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In the first step of the rulemaking the Commission will set the spot-month position limits at 25% of deliverable supply for a given commodity. This currently is the procedure in both the agricultural commodities and exempt commodities, but needs to be set by the Commission so it can add economically equivalent swaps to the position limit structure.

Limits on positions in similar cash-settled contracts will be the same for entities with positions in the physical contract. If an entity has no position in the physical contract, cash-settled contract limits will be five times that of the physical.

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