The CFTC has proposed setting position limits for futures and options on the most important US energy products: light sweet crude oil, Henry Hub natural gas, New York Harbor No 2 heating oil and New York Harbor gasoline blendstock.

But the consensus is that the proposed limits are quite high and would affect few players.

There will still be exemptions for “bona fide hedging” and for “certain swap dealer risk management transactions” – and crucially, the over-the-counter market is not affected.

“It doesn’t sound like onerous regulation,” said Michael Wittner, an oil analyst at Société Générale in London. “Levels are set high intentionally so as to enforce little liquidation, if any. It seems clear to me they’ve made a very conscious decision not to rock the boat.”

Amrita Sen, a commodities analyst at Barclays Capital in London, said: “[The announcement of proposed regulation] hasn’t had much of an impact on prices today. Fundamentals remain the key drivers.”

Tighter regulation has been expected for some time after an inquiry in the summer of 2009 and a subsequent review by the Commission. Firms now have 90 days to comment before the CFTC makes a final decision.

The planned rules cover regulated derivatives markets such as Nymex and Intercontinental Exchange. The Commission can impose limits on trading of the major energy commodities there, without needing to prove that there has been excessive speculation. Limits, reset annually, would relate to the size of the market.

The caps would cover positions aggregated across physically settled and cash-settled contracts, across reporting markets and at the owner level. In this way, they differ from those for agricultural products, which can be disaggregated for independently controlled positions.

The formula for the all months combined (AMC) limit is 10% of the first 25,000 contracts of open interest then 2.5% of open interest over 25,000 contracts. The spot month limit is 25% of the estimated deliverable supply and the single month position limit is two thirds of the AMC position limit.

On a single exchange, the AMC limit is up to 30% of a contract’s total open interest on that exchange. The single month limit for a single exchange is equal to two thirds of that value, or 20% of total open interest on that exchange.

All positions would be aggregated, regardless of the reporting market.

The OTC loophole

Chris Barber, a futures market analyst at ESAI in Boston, said the regulation was expected. “It doesn’t seem to have a lot of teeth,” he said. “Without being able to regulate over-the-counter markets, there’s not much point.”

He said that the biggest players might move to OTC but that: “I really don’t think liquidity will be impacted in a significant way.”

The CFTC said its proposed limits would be unlikely to affect many market participants.

If they had been applied in 2008 and 2009, 23 large traders would have been affected, the CFTC has calculated. Of these, about seven would have been regarded as speculators and subjected to trading limits, while the rest would have been eligible for either “bona fide hedging exemptions” or “certain swap dealer risk management transactions”.

The Commission has calculated that if the proposed limits were in place right now, 10 market participants would be affected. Of these, some might be eligible for hedging or swap dealer exemptions.

However, the light touch regulation may not last forever. Commissioner Bart Chilton said: “Any conduct that potentially can distress markets, that has the propensity to create artificiality in the markets, needs to be understood and curbed as necessary.

“The levels set for the limits, in my opinion, actually err on the high side. Should the limits prove inadequate, the agency can, and I hope will, recalibrate to ratchet them down or even increase them as deemed appropriate.”

Commissioners’ fears

Others addressed concerns that traders might move to OTC markets to circumvent the regulations.

Commissioner Michael Dunn said he was concerned about imposing position limits while the CFTC lacked jurisdiction over the OTC market, and without international agreement. He questioned whether the US “might end up with less transparency in the marketplace than we currently have”.

Steve Sherrod, acting director of surveillance in the CFTC’s division of market oversight, said that passive long-only positions would not be treated differently from other positions by the proposed rules. However, the CFTC is asking for comment on specific issues related to large, passive, long-only positions.

“In particular, the notice [containing the proposed regulation] would solicit comments on how to identify and define such positions and whether such positions should, including collectively, be limited in any way,” he said.

Passive, long-only investors such as commodity funds are the group of speculators that have received the biggest share of the blame among critics of commodity speculation for pushing up prices in oil, natural gas and other energy products.

Sherrod’s words also recognise that bubbles driven by excessive speculation are a collective phenomenon, and are distinct from market manipulation. Limiting the market influence of individual players through position limits might prevent any one player from manipulating prices, but cannot stop a herd of investors driving the market in one direction – the classic mechanism of a bubble. Only a collective position limit could do that.