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CFTC Position Limits on Silver Futures

Silver Futures, like other CFTC regulated markets, are about to get tigher position limits...

BART CHILTON is commissioner at the Commodity Futures Trading Commission (CFTC), the US regulator founded in 1974 – the year that silver and Gold Futures trading began in the United States – and tasked with "protecting market participants against fraud, manipulation, and abusive trading practices, and...ensuring the financial integrity of the clearing process."

Here, the CFTC's Bart Chilton speaks with Hard Assets Investor about position limits on futures traders, including silver futures and the US gold derivatives market.

HAI: Under the Dodd-Frank Act, position limits on derivatives are to be imposed by the CFTC. It's pretty controversial.

Bart Chilton: Well, the people who criticize it are the people who don't want the limits. And those are the speculators who are involved in these markets. It's real hard to say – if you go back to 2008 when we saw oil up near $150 a barrel, and the supply was fairly ample, but the demand was fairly low, relatively – that speculators didn't have something to do with prices, maybe they weren't driving it, but they had something to do with it. And as a regulator, it's our job to make sure that the prices are fair.

It affects people when they're buying gas at the pump, or if they're small businesses. So we're going to put a rule in place ultimately that will have some legitimate limits on the amount that speculators can be involved in these markets to ensure that prices are efficient and effective, and that there's no fraud, abuse or manipulation in these markets.

HAI: There have always been position limits in place. What happened that allowed certain entities to circumvent that?

Bart Chilton: Well, they've had spot month limits in these commodities. But they've not had either aggregate-month or all-month, or back-month limits. And there's really a new breed of speculator that has come into the markets. It's not the speculators that are in it just for the short time, they're what I call "massive passives". And these are hedge funds and pension funds, folks who are betting for example.

HAI: Index funds...

Bart Chilton: Index funds, correct. And by the way, they've never been higher in these markets than they are today. The percentage that they have of these futures markets has never been higher, even in 2008. But their strategy is not to get in and out of the market, but to say, go long in oil for a couple years. So they want you to put some of your retirement and say, "Don't you think that crude oil is going to be worth more in two or three years?" And you might say, "Yeah."

So these massive passives are large. And their trading strategy is fairly price-insensitive. They don't care what happens to crude oil on a day-to-day basis; they're concerned about where it is long term.

HAI: It's an asset class; they want to own it. But doesn't that constitute then a form of hoarding?

Bart Chilton: It does. Because everybody knows these massive passives' trading strategy: When a contract comes to expiration, they roll their contracts and buy long again, regardless of what the price is. That is a new dynamic in these markets. But all the traders are seeing what's happening, and so they play off of it. And ultimately, consumers are paying more than they should for some things.

HAI: Around July '08, the CFTC reclassified the position of a single trader in the oil market who originally was thought to be a commercial entity. They were, in fact, commercials, but their position was really speculative. And it comprised something like 20% of all open positions. And when they reclassified, the market started to tank; that guy had to get out.

Bart Chilton: I shouldn't talk about individual traders, but I can say, to your point, that there have been traders that have more than 20% of the crude oil market. And so that's a problem, in my book. Our proposal is 10% of open interest, and then there's a little multiplier on that. But essentially we're talking about no more than 10% of a market could be held by one trader. I think that's important; I think that's good. But we've got a comment period now.

HAI: That applies to a speculator, not a bona fide hedger.

Bart Chilton: Yes, the hedger would have an exemption. So if you have an underlying interest in the physical commodity whether  –  it's crude oil or soybeans  –  you would be exempt from that, if you're hedging your legitimate business risk.

HAI: Does that apply to a financial firm like Goldman Sachs or Morgan Stanley?

Bart Chilton: No. Those are going to have to be considered individually with regard to exemptions. But they'll only be people who have. So for example, there's one bank that has a very small interest in natural gas, and it may be home heating oil. They wouldn't get an exemption from those just because they have some small interest in these products.

HAI: I heard something about silver, that there's a large firm – maybe not an individual – an entity that's controlling a large position in silver. Is that potentially a problem?

Bart Chilton: There was one trader who earlier this year had 35% of the silver market. It's a big problem. That's too big. Even the people who don't like position limits, when I tell them about that 35% in silver, they sort of wince at that. So that's a problem. It's not there now. It's less. But that's why we need these position limits. Everybody should know the rules of the road. And again, if we put them in place, we'll have more efficient and effective markets.

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