Boil in Oil $$$

Thanks for sharing.

I've been saying the same thing for years on these very forums. The driver of ever increasing commodity costs, or specifically the volatility, is not so much emerging markets as the popular media wants you to believe, but instead it is leverage.

Wall St is addicted to leverage like it's crack cocaine. One need look no further than the record correlation in the equities market over the last couple years as Wall St tries to recapitalize after losing its shirt in 2008-09. Stocks no longer trade as representatives of individual companies. Instead stocks trade in baskets as representatives of an asset class. This is because the big boys, the hedge funds, the high frequency trading outfits, and Goldman and JPMorgan are trading equity index futures because of the leverage it allows them. Buying index futures is akin to buying proportionate shares in the underlying stocks which in turn explains the record correlation among individual stocks.

Problem is, before Wall St started almost exclusively using index futures for their equity trades they first feasted their eyes on commodity futures where a 100K dollar contract for crude oil can be purchased for less than 5,000 dollars (over 20:1 leverage). Crude oil is simply the vehicle of choice for the speculators because of the BRIC story being peddled to the public but this speculation and leverage has driven up the cost of everything from corn and wheat to lean hogs and soy beans.

The common denominator in all of these markets is leverage. Wall St loves its leverage. Buying a single stock or a handful of stocks with cash and buying and holding is a fools game for the common folk like you and me. We exist only to be fleeced in their eyes. These vultures are not investors but instead they are manipulators looking to scam the public in inelastic assets.

The answer is simple and the article above states it as have I in the past. The CFTC and the exchanges themselves have clearly shown they have no interest in fixing the problem so we must all urge Congress to act. What I'm referring to is eliminating the leverage appeal. These markets should be reduced to a 50% cash deposit (2:1 leverage) just like exists when you buy equities on margin. This will eliminate the comparitive appeal of these markets and the vultures and the Giant Squid known as Goldman Sachs will be forced to enter into the common stock market like the rest of us.

If you don't believe me this would fix the issue, I have evidence leverage is the culprit. You may recall there was much chatter about speculation being the cause of oil's meteoric rise in the Summer of 2008. The chatter rose to a feaver pitch to the point the CFTC actually held a discussion/investigation into the cause of oil's rise in late May 2008. You're guess is as good as mine as to what actually transpired at the meeting and behind closed doors but there was a rumor circulated on the street and purveyed by the financial news outlets including CNBC and Bloomberg that they were considering forcing the exchanges to raise margins. I think oil was somewhere around $125/bl when the investigation was launched and during the investigation the steep increasing trend in oil prices saw a pause and traded sideways. The investigation lasted a couple days at which its end they announced they saw no illegal activity and would not raise margins. This was basically waving the green flag for the speculators and immediately after the announcement that it was "game on" once again oil saw its largest one-day gain in history at the time* of over $10/bl ($10.75/bl or 8.41% to be exact).

There was no macro economic event on this day nor was there a geopolitical event. All that occured is the CFTC basically said they weren't going to prosecute or penalize anyone and speculators rejoiced and loaded up with leverage pushing oil ever closer to its nominal high of $147/bl later that Summer.

The answer is simple - raise margins for all non-bonafide hedgers (any market participant that is not a producer or end user) to 50% cash which is at parity with equities. This will abolish to appeal of commodity futures for speculators and the speculative money will come out of these markets and prices will tumble. The question is does Congress have the backbone to get the job done or are they in on it too as the article above implies?

By Tim O’Shei

HOUSTON BUSINESS JOURNAL | Friday, Apr 8th 2011

Who controls the global oil prices?

Powerful banks? Massive hedge funds? Big Oil? OPEC?

There’s never been a straight answer to that question – until now.

Leah McGrath Goodman, a former special writer and editor for The Wall Street Journal and 1998 graduate of St. Bonaventure University, spent the last seven years writing a book that reveals where oil prices have been set for decades: the New York Mercantile Exchange. Or, as the title of Goodman’s book calls it, “The Asylum.”

Published this year by William Morrow/HarperCollins, “The Asylum” takes readers into the boardroom and onto the trading floor of Nymex. Goodman paints a warts-and-all portrait of the often rough-edged traders, for whom she claims making or losing millions in a day was as commonplace as fistfights, drugs and pornography.

By executing both their own deals for oil contracts and orders from big banks and hedge funds, the Nymex traders set the benchmark for global oil pricing. They still do, though Nymex is now part of a group that includes its former competitor, the Chicago Mercantile Exchange, and most of the trading action happens online rather than on the floor.

Business First Managing Editor Tim O’Shei, a classmate of Goodman’s at St. Bonaventure, recently talked to her about the book and about the oil market. Following is a truncated version of that conversation:

What’s your overall take on Wall Street and the oil market’s effect on the country today?

Fascinating discussion here. I think I also agree that commodities should not be leveraged simply because these are everyday consumables. If speculators artificially drive up prices, then this just hurts the average consumer for no good reason.

Keep the leverage to stocks, derivatives, forex, etc., and out of items whose price can directly affect the economy. I don't know about you, but I'm tired paying the kind of prices were are at the pump, and the last thing we need if for foodstuff to become too expensive to purchase.