Oil price speculation: Masters back on the attack | FT Alphaville

Oil price speculation: Masters back on the attack

Hedge fund honcho Michael Masters is at it again in his continuing onslaught against commodity index investors, primarily big investment banks, who Masters – and what seems to be most of US Congress – blame for record oil prices.

In a report due out later Wednesday, Masters, president of the Masters Capital Management hedge fund, says commodity index investors sold $39bn worth of oil futures between their July record and Sept 2, causing crude to plunge, reports Bloomberg on Wednesday .

His timing is good for, even as oil prices are way down from their July highs, commodities speculation is coming back into the spotlight, with the US Commodity Futures Trading Commission set to issue its own report Thursday on the impact of index investors and OTC trading on commodities, and discuss its study with a congressional committee, notes Bloomberg.

Masters, whose US Virgin Islands-based hedge fund owns shares in various major US airlines (which, as huge oil-price hedgers, are of course highly sensitive to price fluctuations), has testified three times before Congress this year on proposals to impose curbs on speculative commodities investors. He blames those who buy and hold an index of commodities for driving prices to records and for their subsequent drops, saying in late June that index investors had “hijacked commodities futures markets”.

In his testimonies, Masters argued that limits on traders would cut oil prices to $65 to $70 a barrel, or close to production prices, and was cited by lawmakers who introduced at least 20 measures to curb speculation.

Since then, Congressional pressure on the CFTC to step up enforcement and restrict anonymous trades has pushed index traders out of their positions and driven down prices, Masters noted this week.

“I don’t think it’s just coincidence that the money came out after the pressure was put on these folks,” said Masters, who has pushed for legislation to set limits on index commodity holdings, reports Bloomberg.

Crude oil futures surged to a record $147.27 on July 11, an increase of 53 per cent for the year, on the New York Mercantile Exchange, then fell 26 per cent to $109.71 on Sept 2. Oil dropped $3.08 to $103.26 on Tuesday on the Nymex.

All of which reinforces Masters’ efforts to blame it all on the index traders. However, as a vocal group of Masters’ critics note, his figures and research methods raise questions.

Among the latest criticisms, Jim Hamilton on Economistsview.com notes, in an attack on a recent Washington Post article about speculative oil trading:

I’d like to know if we’re including options somehow in this number. But more importantly, the claim that you can compare the number of notional barrels of oil implied by a futures contract if it were held to settlement with the number of physical barrels that the US consumes repeats the egregious error committed by Michael Masters in his Senate testimony this May.

You can’t compare the outstanding Nymex open interest with US daily petroleum consumption numbers directly because they are measured in different units. Open interest is a stock – it is measured in number of outstanding contracts at a particular point in time. Consumption is a flow – it is measured in barrels per unit of time. You can’t measure how many barrels of oil the US consumes without specifying a time unit.

We consume about 20 million barrels per day, or 14,000 barrels per minute, or 7.3 billion barrels per year. With which of these three numbers are we supposed to compare 57 million? 57 million sounds like a lot more than 14,000, and a lot less than 7.3 billion. You can make 57 million sound as big or as small compared with US consumption as you want, because there’s an arbitrary time interval associated with consumption that is not associated with open interest. If you want the futures volume to sound big, you compare open interest with daily consumption, as Masters and [David] Cho [author of the Post article] both do.

Bloomberg also cites critics of Masters’s earlier work, who say he lacks access to the data needed to draw his conclusions. Walter Lukken, acting chairman of the CFTC, is among those who question the validity of Masters’ data, it adds.

“Just as weather forecasters have no effect on the weather, energy speculators have no effect on the price of oil,” Scott Talbott, a lobbyist for the Financial Services Roundtable, which represents investors, told Bloomberg. “His fallacy is that he ignores the laws of supply and demand, which determine the price of oil.”

Masters says he extrapolates his numbers from publicly available agricultural data to arrive at overall numbers that include oil futures investments. Earlier this year reported that index speculators such as those that trade on S&P’s GSCI accounted for $260bn of assets, up from $13bn in 2003. As of Sept 2 that number was down to $223bn, noted Bloomberg.

Whatever the case, in arguing for legislation, lawmakers, primarily Democrats will point to the Masters report and an MIT report released In June alleging that speculation caused the rise in energy prices, Bloomberg adds.

And after the CFTC’s report Thursday, regulators may require Wall Street banks to regularly disclose their energy futures positions connected to the unregulated swaps market, according to people familiar with the discussions, suggests Bloomberg:

JPMorgan, Goldman Sachs, Barclays and Morgan Stanley control 70 per cent of the commodities swaps positions, and swaps dealers are the largest holders of Nymex crude oil futures contracts, Masters says in his report. “These large financial players have become the primary source of the recent dramatic and damaging price volatility”.