Transcript “Federal Energy Trading Policy Environment” or “Never Let A Good Crisis Go To Waste” Global Energy Management Institute 7th Annual Energy Marketing & Trading.

“Federal Energy Trading Policy Environment”
or
“Never Let A Good Crisis Go To Waste”
Global Energy Management Institute
7th Annual Energy Marketing & Trading Conference
March 19, 2009
Presented by:
George D. Baker
Williams & Jensen, PLLC
1155 21st Street, NW
Washington, D.C.
202-659-8201
[email protected]
What is the situation in Washington
these days?
“One picture equals a
thousand words”
Recall what happened to this
happy crew?
Guess who you are in this picture?
The people are not happy!
The fact is that there is so much going on affecting
the energy trading environment, I feel like this guy
trying to get a drink!
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In D.C. we are not just drinking out of one
fire hose but several going full blast:
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Tarp
SEC initiatives
TARF
Mark-to-Market revisions
Obama budget
G-20 meetings
Stimulus bill
Regulatory Reform
New taxes
Hedge Fund Regulation
And on, and on, and on…..
All these can affect energy trading, but
what is at the core of the energy trading
political environment?
Today’s Presentation
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Themes Dominating Energy Trading Political
Environment on Capital Hill
Commodity Exchange Act/CFTC
CFTC/SEC Merger and Regulatory Reform
Prospects for a Transaction Fee/Tax
Energy and Global Climate Legislation
Political Environment
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“Elections have consequences”
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Obama removes Bush veto of Democratic initiatives
Increased House and Senate Democratic majorities
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House 254 Democrats vs. 178 Republicans
Senate 59/60 Democrats vs. 40 Republicans
“New”* Administrative Agency Leadership
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Geithner at Treasury
Gensler at CFTC
Shapiro at SEC
Summers at CEA
* Geithner, Gensler, Summers all worked on
Commodity Futures Modernization Act of 2000 in
Clinton Administration, and Shapiro is a Washington
“fixture” as well
All Obama policy priorities are dependent on
or secondary to economic recovery
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But that focuses attention on energy trading
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Energy and other commodities affect basic economy and
consumer/voters perceptions
Widespread anger and sense of insufficient regulation of
commodity trading as contributing to economic meltdown
Obama views financial re-regulation as a major
policy took to advance his economic recovery
program
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U.S. leadership in international financial markets is
implicated: U.S. “caused” this meltdown and “pushed”
the ‘de-reg” model on the world
EU wants a re-regulatory approach
So how is energy trading viewed in
this political environment?
Politically significant “themes” running through
Congress’s perception of energy trading
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All---or most---speculation is evil and should be
limited if not stopped, especially speculation by
long-only index funds
Speculation “caused” the commodity price spikes of
2008 and subsequent price collapses in 2009
Only commercial physical commodity hedgers are
bona fide
OTC markets are insufficiently regulated and such
“dark markets” have allowed and invited
manipulation of futures markets
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Margin can be increased and position limits can be
imposed on an aggregated basis across all exchange
traded and OTC product markets --- all without
adversely affecting the liquidity and efficiency of US
commodity markets or driving transactions overseas
outside of US jurisdiction;
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and if there are such adverse affects, who cares!
Manipulation is the same as speculation, or at least
the same as excess speculation
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“I don’t represent Wall Street or Greenwich,
Connecticut and so I don’t care what they
think…”
Relative inexperience and lack of
sophisticated understanding by Members of
Congress re: commodity trading and relevant
regulatory regimes
CFTC’s ability to do the job is questioned
Q: So what is Congress’s response to
these perceptions for energy trading
policy?
I. Commodity Exchange Act/CFTC
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Congress is displaying a willingness to broadly
revisit basic philosophy of the Commodity Futures
Modernization Act of 2000:
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Trust in “sophisticated investors” is gone and with it
notion that they deserve less regulation
Congress is looking for someone to blame for the
economic mess: Speculators and OTC traders are the
usual nominees as scapegoats
Strong distrust of OTC markets and skepticism of CFTC
as “cop on the beat”
Perception that OTC trading was predatory, manipulative
and destructive to cash and exchange traded markets
House Agriculture Committee reported the Peterson
Bill (H.R. 977) in February by voice vote
Chairman Colin Peterson (D-MN)
Highlights of Peterson bill reflect the
range of issues in play on the Hill for
energy trading, so let’s take a quick
walk through H.R. 977
Foreign Boards of Trade/Transparency
of Offshore trading
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Requires Foreign Boards of Trade with any contract that
trades in US or settles against price of any contract listed
on a US-registered exchange to:
 Provide daily trading information comparable to U.S.
exchanges
 Adopt position limits comparable to U.S. exchanges
 Adopt comparable rules to prevent manipulation,
excessive speculation and disruption of physical
delivery in cash settlement
 Provide comparable information to CFTC re: large
trader positions and aggregate trade positions
Detailed reporting and
disaggregation of market data
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Requires CFTC to define and classify index
traders and swap dealers for data reporting
purposes for transactions on DCMs, DTEFs,
FBOTs and ETFs trading “significant price
discovery contracts”
CFTC to disaggregate and publish monthly:
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Number and total notional value of index funds and
other passive, long-only and short-only positions, in
ALL markets (including OTC?); and
Data on speculative positions relative to “bona fide
hedgers” in ALL markets (again, OTC?)
Transparency and Recordkeeping
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Subjects OTC transactions for all commodities in
regulated and exempt markets (swaps) to
reporting and record keeping requirements as
determined by CFTC
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Includes OTC contracts as part of large trader
reporting requirements
Gives CFTC “special call” authority to obtain ANY
OTC market positions, even in “exempt” transactions
in order to deter or prevent manipulation, disruption to
market integrity or to diminish, eliminate or prevent
excess speculation in regulated markets
Trading limits to prevent excessive
speculation and protect “bona fide hedgers”
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Requires CFTC to set speculative position limits for all physicallydeliverable commodities other than excluded commodities
(financials).
Applies to all exempt (energy and metals) and ag commodities
Position limits shall apply to spot month, each month and aggregate
positions for all months across all DCMs, DTEFs, or ETFs trading
significant price discovery contracts
Requires CFTC to hold bi-annual public hearings for agricultural
commodities and energy commodities to provide interested parties
opportunity to comment and make recommendations re: positions
limits
Establishes conditions for CFTC’s granting of hedge exemption from
position limits to restrict hedge exemption to “bona fide” hedgers
(largely commercial users of the underlying commodity)
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CFTC to define a “bona fide hedge”
CFTC employees
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Requires CFTC to hire more employees
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Raises question of how to pay for the new employees?
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Increased federal appropriation?
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FY-09 appropriation of $146 million is a 31%
increase and directs CFTC to hire 100 new
employees
Beyond FY-09?
Review of all prior actions by CFTC to ensure
compliance with new CEA provisions
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Compels revisitation of hedge exemptions and
other exemptions etc.
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If you are relying on a favorable “no-action” letter or
exemption, pay attention!!!
OTC Markets study by CFTC and
emergency OTC position limits authority
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Requires CFTC to study and report on efficacy and
consequences of potential position limits on OTC
trading and aggregated position limits across all
OTC markets, DMCs and DTEFs for agricultural
and energy commodities
CFTC could impose position limits for speculators in
Ag and Energy OTC markets if that OTC trading is
determined to have potential to disrupt liquidity and
price discovery functions of exchange traded
markets, cause severe market disturbance, or prevent
prices from reflecting supply and demand
Clearing of OTC Transactions
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Generally all prospective exempt OTC
transactions and swaps must be settled and
cleared through a CFTC-regulated clearing
house
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OTC transactions in an “excluded” commodity
(i.e. financials) may be settled and cleared in an
SEC-regulated or FED-regulated clearing house
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Exemption from General Mandatory Clearing Rule
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CFTC can exempt a contract or class of contracts if:
 Highly customized
 Transacted infrequently
 Does not save significant price discovery function
 Parties demonstrate financial integrity of the contract
and themselves and shall include a “net capital
requirement” for contract recognizing the risks
associated with the absence of clearing
 Contract, once executed, is reported to CFTC (or SEC
or FED)
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All OTC transactions prior to enactment must
be cleared or reported to CFTC
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Concerns
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Not all OTC products may be suitable for clearing
CDS clearing houses not yet necessarily ready to go
with clearing for all OTC products
Carbon Trading
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Excludes carbon/GHG allowances from
“exempt” commodity definition, thus
requiring such trading to be on futures
exchanges and thus be regulated by CFTC
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Divergent views exist on which agency should
regulate CO2/GHG trading
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CFTC
FERC
EPA
DOE
SEC
CFTC Inspector General
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Makes CFTC Inspector General a Presidential
appointee to be confirmed by the Senate
Emergency Suspension of Credit
Default Swaps
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Grants CFTC authority to suspend CDS
trading with concurrence of the President
during any period of SEC prohibition on
short-selling:
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CFTC order only applies to:
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CDS on specific securities subject to and for duration
of SEC short-selling suspension
CDS NOT purchased to reduce an existing risk related
to the reference entity or its obligations (“naked”)
CFTC Criminal Authority
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Grants CFTC authority to initiate and conduct
criminal proceedings under CEA if DOJ
declines
“How about the Senate?,” you ask.
There are Senate proposals that
reflect similar issues to those
contained in the Peterson bill
Senate Agriculture Chairman Tom Harkin’s Bill
(S. 272) “Derivatives Trading Integrity Act of 2009”
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Eliminates “excluded” and “exempt” commodities
categories in CEA, thus requiring all financial,
energy and metal derivatives commodities trading to
be on exchange, period!
Eliminates CEA’s “swap exemption”
Looking to expand S. 272 and markup a bill in
coming months
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Could be vehicle for a wide range of other energy trading
and energy policy provisions on Senate floor!
Could be rolled into a larger energy bill that Democrats
want to do in 2009
Senator Levin (D-MI) and Senator Bingaman (D-NM)
“Prevent Excessive Speculation Act of 2008”
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Thematically similar in many ways to
Peterson bill:
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Authorize CFTC to impose speculation limits on
OTC transactions in all energy products and
CO2/GHG allowances
Closes “swaps” loophole for energy and ag
commodities
Limits “hedge exemption” to commercials
Close “London” loophole (FBOTs)
Even without new CEA legislation,
expect CFTC to take action:
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CFTC “concept release” re: use of hedge exemption by index
traders
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Public comment solicited soon
Culminate in a rulemaking
New CFTC Chairman Gary Gensler
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Senate Ag confirmation hearing held in February
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Hearing was delayed; Senate floor action still delayed by some Senators
expressing concerns
Chairman Harkin extracted admissions of deregulatory “mistakes” from
Gensler re: his role in CFMA of 2000
Gensler clearly signaled intention to:
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Revisit all hedge exemptions and no-action letters and process for issuing
no-action letters
Require all standardized OTC contracts to be cleared
Subject all OTC dealers to increased regulation (record keeping; reporting)
Supports treating all physical commodity futures the same (Ag vs.
Energies)
II. Transaction Fee/Tax
A Bit of History
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The last several Bush Administration budgets
all proposed a futures transaction fee to
recoup cost of CFTC enforcement program
($87 million)
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Congress always rejected the Bush transaction fee
But that was pre-market meltdown and pre-TARP
Obama budget (thus far!) does not propose a
transaction fee, but more details are expected
soon
Rep. DeFazio (D-OR): H.R. 108
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“Let Wall Street Pay for Wall Street’s Bailout Act of 2009”
TARP already has a payback provision requiring President to
produce a plan 5 years from now to recoup net deficit in
TARP from the “financial industry”
DeFazio would impose a tax on each “covered securities
transaction” equal to the lesser of:
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a specified percentage set by Treasury to recover revenue equal to the
“net cost” to the Federal Government of the TARP and the Fed’s
actions (that is a lot of $ $ $ $!); or 0.25%
“Covered securities transaction” includes anything traded
under SEC Act and any transaction subject to CFTC
jurisdiction futures
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potentially includes exempt products (energy, metals) or swaps or
OTC products
Illustration at 0.25%
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Assume euro dollar contract with $1 million
notional value
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$1 million x 0.25% = $2,500
Currently, exchange charges 8 cents!
Senator Grassley (R-IA) and
Senator Wyden (D-OR)
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2008 Discussion Draft
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Treat Capital Gain or Loss from sale or exchange of oil
and natural gas commodities as short term gain or loss
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Would apply to oil and gas trading, indexes, derivatives, or any
option, forward, futures, short position or “any similar
instrument”
Would eliminate 60/40 tax treatment for futures or mixed
straddles
Would “look thru” to treat pro rata share of income or loss of
foreign corporations that invest in defined commodities in same
manner as if the commodities were owned directly by the
investor in the foreign corporation
Treat gains and losses of tax-exempt investors in defined
commodities as unrelated business taxable income
III. CFTC/SEC Merger
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Lots of talk; Gensler opposes; Shapiro more
sanguine
Strongly opposed by Congressional Ag Committees
Somewhat supported but not a priority for House
Financial Services and Senate Banking
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Current priority is “systemic risk” regulator
Fed?
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Pros and Cons
Obama Financial Regulation Reform Proposal: Perhaps
just principles for now
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Aspiration: Release before Obama’s G-20 Summit in April
Reality: Treasury has its hands very full and lacks
nomination/confirmation of senior personnel
IV. Energy and Global Climate
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High priority for Congressional Democrats and
Obama Administration for 2009
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Query: Impact of economy on timetable
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Aspiration: December 2009 meeting in Copenhagen
Fight brewing over who will regulate CO2/GHG
trading:
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CFTC
SEC
EPA
FERC
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Each agency has its Congressional proponents
Energy Bill’s Renewable Portfolio
Standard (RPS)
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Will encourage national trading market for
RPS credits
Proposals begin with 4% RPS in 2012 and
variously ramp up to 15%, 20% and 25% RPS
by 2020
Bottom Line
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The energy trading plate is very full and laden
with uncertainty
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Expect plenty of legislative and administrative
activity in 2009
Prospects for significant regulatory changes are
high
Questions