This Chapter is longer than the first two and couldn't be avoided as all the information here is related and it is critical that it all be read in one Chapter.
Chapter 3 shows how the loopholes in deregulation were created, by whom and at what cost. It also shows that even though the Federal Government is investigating the “legal” insider trading involved, the players know not only that the investigations take years to unfold, but that settlements (millions) in the end cost them much less than they are making (billions) and amounts to slaps on the wrist.
So they do it anyway. Go figure.
The interesting thing that I have found in most articles that I have written on government is that they all contain a key name that seems to be involved in everything and it's not Bush or Cheney. Therefore…. I am beginning to think that this series of articles might have the wrong title and be in the wrong category.
A better one seems to be “The New World Owners” and may pick up an AKA somewhere along the way.
Part 1 / Chapter 3
Gasoline Prices, Oil Company Profits, and the American Consumer”
Permission to re-print by :
Tyson Slocum, Director
Public Citizen’s Energy Program
The CFTC enforces the Commodity Exchange Act, which gives the Commission authority to investigate and prosecute market manipulation. But after a series of deregulation moves by the CFTC and Congress, the futures markets have been increasingly driven by the unregulated over-the-counter (OTC) market over the last few years. These electronic OTC markets have been serving more as pure speculative markets, rather than traditional volatility hedging or price discovery. And, importantly, is new speculative activity is occurring outside the regulatory jurisdiction of the CFTC. Energy trading markets were deregulated in two steps. First, in response to a petition by nine energy and financial companies, led by Enron, on November 16, 1992, then-CFTC Chairwoman Wendy Gramm supported a rule change—later known as Rule 35— exempting certain energy trading contracts from the requirement that they be traded on a regulated exchange like NYMEX, thereby allowing companies like Enron and Goldman Sachs to begin trading energy futures between themselves outside regulated exchanges Importantly, the new rule also exempted energy contracts from the anti-fraud provisions of the Commodity Exchange Act. At the same time, Gramm initiated a proposed order granting a similar exemption to large commercial participants in various energy contracts that was later approved in April 2003.
Enron had close ties to Wendy Gramm’s husband, then-Texas Senator Phil Gramm. Of the nine companies writing letters of support for the rule change, Enron made by far the largest contributions to Phil Gramm’s campaign fund at that time, giving $34,100. Wendy Gramm’s decision was controversial. Then- chairman of a House Agriculture subcommittee with jurisdiction over the CFTC, Rep. Glen English, protested that Wendy Gramm’s action prevented the CFTC from intervening in basic energy futures contracts disputes, even in cases of fraud, noting that that “in my 18 years in Congress [Gramm’s motion to deregulate] is the most irresponsible decision I have come across.” Sheila Bair, the CFTC commissioner casting the lone dissenting vote, argued that deregulation of energy futures contracts “sets a dangerous precedent.” A U.S. General Accounting Office report issued a year later urged Congress to increase regulatory oversight over derivative contracts and a congressional inquiry found that CFTC staff analysts and economists believed Gramm’s hasty move prevented adequate policy review.
Five weeks after pushing through the “Enron loophole,” Wendy Gramm was asked by Kenneth Lay to serve on Enron’s Board of Directors. When asked to comment about Gramm’s nearly immediate retention by Enron, Lay called it “convoluted” to question the propriety of naming her to the board.
Congress followed Wendy Gramm’s lead in deregulating energy trading contracts and moved to deregulate energy trading exchanges by exempting electronic exchanges, like those quickly set up by Enron, from regulatory oversight (as opposed to a traditional trading floor like NYMEX that remained regulated). Congress took this action during last-minute legislative maneuvering on behalf of Enron by former Texas GOP Senator Phil Gramm in the lame-duck Congress two days after the Supreme Court ruled in Bush v Gore, buried in 712 pages of unrelated legislation. As Public Citizen pointed out back in 2001, this law deregulated OTC derivatives energy trading by “exempting” them from the Commodity Exchange Act, removing anti-fraud and anti-manipulation regulation over these derivatives markets and exempting “electronic” exchanges from CFTC regulatory oversight This deregulation law was passed against the explicit recommendations of a multi-agency review of derivatives markets. The November 1999 release of a report by the President’s Working Group on Financial Markets—a multi-agency policy group with permanent standing composed at the time of Lawrence Summers, Secretary of the Treasury; Alan Greenspan, Chairman of the Federal Reserve; Arthur Levitt, Chairman of the Securities and Exchange Commission; and William Rainer, Chairman of the CFTC—concluded that energy trading must not be deregulated. The Group reasoned that “due to the characteristics of markets for non financial commodities with finite supplies … the Working Group is unanimously recommending that the [regulatory] exclusion not be extended to agreements involving such commodities.” In its 1999 lobbying disclosure form, Enron indicated that the “President’s Working Group” was among its lobbying targets.
As a result of the Commodity Futures Modernization Act, trading in lightly-regulated exchanges like NYMEX is declining as more capital flees to the completely unregulated OTC markets, such as those run by the Intercontinental Exchange (ICE). Trading on the ICE has skyrocketed, with the 93 million contracts traded in 2006 representing a 120 percent increase from 2005, and the 12.6 million contracts traded in January 2007 a 166 percent increase from a year earlier. This explosion in unregulated trading volume means that more trading is done behind closed doors out of reach of federal regulators, increasing the chances of oil companies and financial firms to engage in anti-competitive practices.
The founding members of ICE include Goldman Sachs, BP, Shell and Totalfina Elf. In November 2005, ICE became a publicly traded corporation. Goldman Sachs remains a significant shareholder of ICE, owning about 7.4 percent of the exchange’s shares, while Morgan Stanley owns 7.3 percent and BP five percent. Goldman Sachs’ trading unit, J. Aron, is one of the largest and most powerful energy traders in the United States, and commodities trading represents a significant source of revenue and profits for the company. Goldman Sachs’ most recent 10-k filed with the .S. Securities and Exchange Commission show that Fixed Income, Currency and commodities which includes energy trading) generate nearly 40 percent of Goldman’s 37.7 billion in revenue for 2006. In 2005, Goldman Sachs and Morgan Stanley—the two companies are widely regarded as the largest energy traders in America—each reportedly earned about $1.5 billion in net revenue from energy trading. One of Goldman’s star energy traders, John Bertuzzi, made as much as $20 million in 2005.
In the summer of 2006, Goldman Sachs, which at the time operated the largest commodity index, GSCI, announced it was radically changing the index’s weighting of gasoline futures about $6 billion worth. As a direct result of this weighting change, Goldman Sachs unilaterally caused gasoline futures prices to fall nearly 10 percent.
A recent bipartisan U.S. Senate investigation summed up the negative impacts on oil prices with this shift towards unregulated energy trading speculation:
Over the last few years, large financial institutions, hedge funds, pension funds, and other investment funds have been pouring billions of dollars into the energy commodity markets—perhaps as much as $60 billion in the “regulated” U.S. Oil futures market alone…The large purchases of crude oil futures contracts by speculators have, in effect, created an additional demand for oil, driving up the price of oil to be delivered in the future in the same manner that additional demand for the immediate delivery of a physical barrel of oil drives up the price
on the spot market…Several analysts have estimated that speculative purchases of oil futures have added as much as $20–$25 per barrel to the current price of crude oil…large speculative buying or selling of futures contracts can distort the market signals regarding supply and demand in the physical market or lead to excessive price volatility, either of which can cause a cascade of consequences detrimental to the overall economy…At the same time that there has been a huge influx of speculative dollars in energy commodities, the CFTC’s ability to monitor the nature, extent, and effect of this speculation has been diminishing.
Most significantly, there has been an explosion of trading of U.S. Energy commodities on exchanges that are not regulated by the CFTC…in contrast to trades conducted on the NYMEX, traders on unregulated OTC electronic exchanges are not required to keep records or file Large Trader Reports with the CFTC, and these trades are exempt from routine CFTC oversights. In contrast to trades conducted on regulated futures exchanges, there is no limit on the number of contracts a speculator may hold on an unregulated OTC electronic exchange, no monitoring of trading by the exchange itself, and no reporting of the amount of outstanding contracts (“open interest”) at the end of each day.
Thanks to the Commodity Futures Modernization Act, participants in these newly deregulated energy trading markets are not required to file so-called Large Trader Reports, the records of all trades that NYMEX traders are required to report to the CFTC, along with daily price and volume information. These Large Trader Reports, together with the price and volume data, are the primary tools of the CFTC’s regulatory regime:
“The Commission’s Large Trader information system is one of the cornerstones of our surveillance program and enables detection of concentrated and coordinated positions that might be used by one or more traders to attempt manipulation.” So the deregulation of OTC markets, by allowing traders to escape such basic information reporting, leave federal regulators with no tools to routinely determine whether market manipulation is occurring in energy trading markets.
One result of the lack of transparency is the fact that even some traders don’t know what’s going on. A recent article described how:
Oil markets were rocked by a massive, almost instant surge in after-hours electronic trading one day last month, when prices for closely watched futures contracts jumped 8%…this spike stands out because it was unclear at the time what drove it. Two weeks later, it is still unclear. What is clear is that a rapid shift in the bulk of crude trading from the raucous trading floor of the New York Mercantile Exchange to anonymous computer screens is making it harder to nail down the cause of price moves…The initial jump “triggered more orders already set into the system, and with prices rising, people thought somebody must know something,” Tom Bentz, an analyst and broker at BNP Paribas Futures in New York who was watching the screen at the time, said the day after the spike. “The more prices rose, the more it seemed somebody knew something.”
Oil companies, investment banks and hedge funds are exploiting the lack of government oversight to price-gouge consumers and make billions of dollars in profits. These energy traders boast how they’re price-gouging Americans, as a recent Dow Jones article makes clear: energy “traders who profited enormously on the supply crunch following Hurricane Katrina cashed out of the market ahead of the long weekend. ‘There are traders who made so much money this week, they won’t have to punch another ticket for the rest of this year,’ said Addison Armstrong, manager of exchange-traded markets for TFS Energy Futures.”
The ability of federal regulators to investigate market manipulation allegations even on the lightly-regulated exchanges like NYMEX is difficult, let alone the unregulated OTC market. For example, as of August 2006, the Department of Justice is still investigating allegations of gasoline futures manipulation that occurred on a single day in 2002. If it takes the DOJ four years to investigate a single day’s worth of market manipulation, clearly energy traders intent on price-gouging the public don’t have much to fear.
That said, there have been some settlements for manipulation by large oil companies. In January 2006, the CFTC issued a civil penalty against Shell Oil for “non-competitive transactions” in U.S. crude oil futures markets. In March 2005, a Shell subsidiary agreed to pay $4 million to settle allegations it provided false information during a federal investigation into market manipulation. In August 2004, a Shell Oil subsidiary agreed to pay $7.8 million to settle allegations of energy market manipulation. In July 2004, Shell agreed to pay $30 million to settle allegations it manipulated natural gas prices. In June 2006, the CFTC brought civil charges against BP for allegedly manipulating the entire U.S. propane market. In September 2003, BP agreed to pay NYMEX $2.5 million to settle allegations the company engaged in improper crude oil trading, and in July 2003, BP agreed to pay $3 million to settle allegations it manipulated energy markets.
In December 2006, Oil giant BP admitted in a filing to the Securities and Exchange Commission that U.S. Commodity Futures Trading Commission staff “notified BP on November 21, 2006 that they intend to recommend to the CFTC that a civil enforcement action be brought against BP…alleging violations…of the Commodity Exchange Act in connection with its trading of unleaded gasoline futures…The U.S. Attorney for the Northern District of Illinois is also conducting an investigation into BP’s gasoline trading.” The announcement also confirmed that “the Commodity Futures Trading Commission is currently investigating various aspects of BP’s crude oil trading and storage activities in the US since 2003.”
In May 2007, Marathon Oil revealed that CFTC staff was recommending an enforcement action against the company for its efforts “to manipulate the price of West Texas Intermediate crude oil.”
*From the PIA. Testimony of Tyson Slocum, Director Public Citizen's Energy Program before The U.S. House Committee on Energy and Commerce, Subcommittee on oversight and Investigations.
TO BE CONTINUED.
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