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Jeffrey H. Harris Collins Chair in Finance Southern Methodist U and U of Delaware

Jeffrey H. Harris Collins Chair in Finance Southern Methodist U and U of Delaware. October 10, 2010 National Association of Business Economists. In the Aftermath of the Crisis: Evolution in Financial Regulation and Policy. Regulatory Challenges. Financial Crisis—precipitated by mortgages

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Jeffrey H. Harris Collins Chair in Finance Southern Methodist U and U of Delaware

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  1. Jeffrey H. HarrisCollins Chair in FinanceSouthern Methodist Uand U of Delaware October 10, 2010 National Association of Business Economists In the Aftermath of the Crisis: Evolution in Financial Regulation and Policy

  2. Regulatory Challenges • Financial Crisis—precipitated by mortgages • Commodities • Public (mis)Perceptions • Worldwide Markets—Cooperation • IOSCO, OECD, IEA, etc. • Financial/Product Market Overlap • SEC, EIA, FERC, Fed, etc. • On Exchanges and OTC • Perspective—futures markets robust

  3. Dodd-Frank • Title VII—OTC Derivatives • Increase transparency, efficiency • Mitigate counterparty risk • Mitigate systemic risk • Requirements • Execution on swap execution facilities (SEFs) • Central clearing • Public reporting • CFTC/SEC/Fed-defined universe

  4. Dodd-Frank (cont.) • Position limits • Prevent excessive speculation • Prevent manipulation • Ensure market liquidity • Ensure price discovery • Swap dealers • Capital requirements • Margin requirements • CFTC/SEC/Fed-defined universe

  5. Sources of Commodity Price Changes • Uncertainty/Risk Management? • Animal Spirits/Excessive Speculation? • Traders? • OTC swaps • Speculators—”Massive Passives” • Commodity Index Traders • ETFs

  6. What We Know: Data Available • Large Trader Data—at CFTC.gov weekly • End of day positions • Commercial • Producer/Merchant • Swap Dealers (Index Funds) • Non-commercial • Managed Money (Hedge Funds) • Others

  7. What We Know: Market Growth • Increased participation • Hedge funds • Swap Dealers • Commodity Index Funds • OTC swaps • Exchange Traded Funds (ETFs—metals, energy) • Relatively stable mix over time

  8. Economic Studies • “Fundamentals, Trader Activity and Derivative Pricing” • Buyuksahin, Haigh, Harris, Overdahl, and Robe • Focus on Swap Dealer participation • From commodity index trading in nearby futures • From OTC positions in back-dated futures • Cointegration of Crude Oil futures prices • Result in “better” pricing for hedgers in 1-year and 2-year contracts • Supports the notion that markets should encourage broad participation

  9. “Massive Passives” • Hedge Funds • Commodity Index Funds* • Little relation between price changes and position changes --Aulerich et al. (2010) • Weak Inverse relation between price changes and position changes • In-flows (+) • Rebalancing (-) • During the “roll period” • Push nearby prices down, next nearby up • Rebalancing, provide liquidity • OTC swaps • ETFs

  10. NYMEX WTI Crude Oil Commodity Index Values Quarterly Equivalent Contracts vs. Daily Price WTI Crude Oil Price (Nearby NYMEX Future in $/bbl)

  11. UNG (United States Natural Gas Fund) Tracking Error UNG Performance Apr 18, 2007 to Sep 16, 2010: -87% ($50.77 to $6.75) NatGas Prompt Contract Performance: -46% ($7.497 to $4.062)

  12. Dodd-Frank Challenges • Rule writing/enforcement burden • Square peg/round hole with OTC markets? • Position limits—expand Federal role, enter politics? • CFTC/SEC/Fed coordination • Consumer Protection

  13. Thank You! jhharris@mail.cox.smu.edu or harrisj@lerner.udel.edu

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