On February 25, 2016, the U.S. Commodity Futures Trading Commission’s (“CFTC”) Energy and Environmental Markets Advisory Committee (“EEMAC”) released its Report on EEMAC’s 2015 Review and Consideration of the CFTC’s Proposed Rule on Position Limits (“Report”). The Report summarizes the EEMAC’s formal recommendations to the CFTC on the CFTC’s proposed rule on position limits. The Report included observations that (1) there is insufficient evidence that the CFTC’s proposed rule is sufficiently “necessary” to satisfy the finding of necessity mandated by the Commodity Exchange Act (“CEA”); (2) the proposed rule would reduce liquidity in physical and derivative power and gas markets, adversely affecting the ability of end users to hedge; and (3) implementing the proposed rule would create practical challenges.
The EEMAC was established by the Dodd-Frank Wall Street Reform and Consumer Protection Act to advise the CFTC on important developments in energy and environmental derivatives markets that may raise new regulatory issues, and to advise on regulatory responses to ensure market integrity and competition to protect consumers. In 2015, the EEMAC held two meetings that focused primarily on the CFTC’s proposed rule mandating new federal position limits for energy futures, options, and swaps beyond the federal position limits for agricultural commodities and existing position limits set by U.S. futures exchanges. In the proposed rule, the CFTC proposed establishing speculative position limits for 28 commodity futures and options contracts, as well as physical commodity swaps that are “economically equivalent” to such contracts. In addition, the CFTC proposed revising the exemptions from speculative position limits, including the exemption for bona fide hedging.
In the Report, eight of the nine EEMAC members agreed on three primary market observations. First, the EEMAC members agreed that the new federal position limits fail to meet the finding of necessity required by the CEA, in part because there is insufficient evidence that speculation has adversely impacted commodity markets (see September 28, 2012 edition of the WER). As one participant stated, the proposed rule is “a solution to a non-existent problem.” Second, the EEMAC members concluded that the proposed rule would have the unintended consequence of reducing liquidity in the power and gas markets, and that these declines in liquidity would impair the ability of energy derivatives markets to serve risk-transfer and price-discovery functions. The EEMAC members concluded that insufficient speculative activity is already limiting the liquidity available to hedgers. They also stated that proposed limits on bona fide hedging would be unnecessarily restrictive and contrary to standard market risk management practices. Third, the EEMAC members concluded that implementing the proposed rule would create practical challenges. For example, the EEMAC members agreed that an expanded accountability regime could achieve the purpose of constraining excessive speculation in a far less burdensome way than the proposed rule, and that any position limits rule should begin with spot month limits and only proceed to limits outside the spot month after a finding that such an expansion is necessary.
The Report concluded by recommending that, if the CFTC moves forward with the proposed rule, the CFTC should first (1) address the flaws in its restriction of bona fide hedging activity; (2) initially impose position limits only in the spot month; (3) update estimates of deliverable supply based on the particular characteristics of each commodity on which position limits are imposed; and (4) utilize the expertise of exchanges to implement any position limits rule.
In a separate dissent, EEMAC member Tyson Slocum of Public Citizen, Inc. disagreed with the Report’s conclusions. In his dissent, Slocum stated that the Report was not a collaborative product of all nine EEMAC members. Furthermore, Slocum asserted that the Report was a consequence of inadequate diversity among EEMAC members, who he stated were largely predisposed to opposing the concept of position limits. Slocum also disagreed with the Report’s recommendations that exchanges, rather than the CFTC, should play the central role in establishing position limits and evaluating and processing hedge exemptions.
A copy of the Report is available here. A copy of the dissent is available here.