Lead prices and commodities index speculators

[rbstern]

There was fascinating congressional testimony on Tuesday by a Wall Street fund manager on what speculative commodity index trading is doing to commodity prices. I've included a link to the testimony at the bottom of this post.

He testified that major investment funds (pensions, institutional, university endowments, etc.) have become huge players in commodity speculation since 2002.

Because of the loopholes in commodities trading laws, they have skirted some of the rules regarding position limits, and therby driven up worldwide commodity prices in the last five years, way beyond actual demand for the commodities themselves.

For example, he showed figures that this new money has purchased nearly as many barrels of oil futures as China's demand for oil has increase during the same period. In other words, these investors have driven up demand as much as China has during the same period.

Traditional speculators can justify their activity by providing markets with liquidity. But the size of the positions taken by these index commodity speculators is too large to serve any practical market purpose.

He describes it as "virtual hoarding" on a massive scale, with little or no benefit to society.

I've been puzzled by gas and commodity price run ups, so I delved a bit into his supporting data. One of the charts in his presentation shows the index fund demand for lead in the last four years. Not surprisingly, the year by year increase index fund money chasing lead closely matches the price increase curve of lead shown on the London Metals Exchange during the same four year period.

Here's the paper. Worth your time to read and understand:

http://hsgac.senate.gov/public/_files/052008Masters.pdf

[EDG]

Like the Hunt bros silver episode in the 1970s eventually the market will eventually take a dump.

[MtGun44]

VERY interesting. This explains some if the inelasticity that seems to be built
into the current commodity prices. They haven't been seeming to act like
normal markets, and this explains why.

Bill

[38 Super Auto]

rbstern,

I think the comments you cited make a lot of sense. I think more exploration and oil
production from American sources would add some negative feedback to all these price increases spawned by speculation.

If markets got wind of huge drilling and exploration activities in Alaska and off the
coast of the Untited States where there is 30,000,000,000+ barrels of crude, the speculators would no longer be able to drive the price up.

So far, my Senator Bayh, and my Congressman Donnelly and many politicians don't understand this. I guess they were skipping school the day their teacher reviewed the concept of SUPPLY and DEMAND.

[hammerhead357]

I have been trying to explain these concepts to some of my coworkers but they seem to think that the oil companies and the gasoline retailers are solely responsible for the high gasoline prices. Iam not really knowledgable enough to articulate the entire concept so perhaps this will help. Thanks .....Wes

[oneokie]

The metals market has entered the same world that ag commodities have endured for years. Volitility is now the buzz word for another sector.

[dwtim]

Thanks for pointing this out. An interesting read.

I wonder what would happen if the rules suddenly changed under the Index Speculators. After all, the investors include many Americans. This odd situation suggests a zero-sum game: we're investing in a manner which drives up prices on the things we use most, which in turn lessens the purchasing power of our money?

I suspect the situation is much more complicated than this. There is a reason why Americans are hoarding away so much money, and a reason why investment firms are choosing certain investments. Perhaps the fiscal conduct of certain institutions makes only the higher rates of return for corporate stock, real estate and futures worth the effort.

[Cloudpeak]

The metals market has entered the same world that ag commodities have endured for years. Volitility is now the buzz word for another sector.

Markets get overbought and oversold. For years, we who used the ag commodity markets (hedging ag commodities) had a saying. "Sometimes, the best crop you can harvest is a bunch of speculators" (when they've overbought a market.)

I was active in commodities when the Hunt brothers made their silver play. I watched a guy lose three farms by shorting silver on the way up. He "puked" his short positions three days before the top in silver. "Long term right, short term, wrong."

WyoBob