The Role of Market Speculation in Rising Oil and Gas Prices: a Need to Put the Cop Back on the Beat

1 109th Congress S. PRT. " ! 2nd Session SENATE 109–65 THE ROLE OF MARKET SPECULATION IN RISING OIL AND GAS PRICES: A NEED TO PUT THE COP BACK ON THE BEAT STAFF REPORT PREPARED BY THE PERMANENT SUBCOMMITTEE ON INVESTIGATIONS OF THE COMMITTEE ON HOMELAND SECURITY AND GOVERNMENTAL AFFAIRS UNITED STATES SENATE JUNE 27, 2006 U.S. GOVERNMENT PRINTING OFFICE 28–640 WASHINGTON : 2006 For sale by the Superintendent of Documents, U.S. Government Printing Office Internet: bookstore.gpo.gov Phone: toll free (866) 512–1800; DC area (202) 512–1800 Fax: (202) 512–2250 Mail: Stop SSOP, Washington, DC 20402–0001 VerDate 0ct 09 2002 09:54 Aug 01, 2006 Jkt 028640 PO 00000 Frm 00001 Fmt 5012 Sfmt 5012 C:\DOCS\28640.TXT SAFFAIRS PsN: PAT congress.#13 COMMITTEE ON HOMELAND SECURITY AND GOVERNMENTAL AFFAIRS SUSAN M. COLLINS, Maine, Chairman TED STEVENS, Alaska JOSEPH I. LIEBERMAN, Connecticut GEORGE V. VOINOVICH, Ohio CARL LEVIN, Michigan NORM COLEMAN, Minnesota DANIEL K. AKAKA, Hawaii TOM COBURN, Oklahoma THOMAS R. CARPER, Delaware LINCOLN D. CHAFEE, Rhode Island MARK DAYTON, Minnesota ROBERT F. BENNETT, Utah FRANK LAUTENBERG, New Jersey PETE V. DOMENICI, New Mexico MARK PRYOR, Arkansas JOHN W. WARNER, Virginia MICHAEL D. BOPP, Staff Director and Chief Counsel JOYCE A. RECHTSCHAFFEN, Minority Staff Director and Chief Counsel TRINA DRIESSNACK TYRER, Chief Clerk PERMANENT SUBCOMMITTEE ON INVESTIGATIONS NORM COLEMAN, Minnesota, Chairman TED STEVENS, Alaska CARL LEVIN, Michigan TOM COBURN, Oklahoma DANIEL K. AKAKA, Hawaii LINCOLN D. CHAFEE, Rhode Island THOMAS R. CARPER, Delaware ROBERT F. BENNETT, Utah MARK DAYTON, Minnesota PETE V. DOMENICI, New Mexico FRANK LAUTENBERG, New Jersey JOHN W. WARNER, Virginia MARK PRYOR, Arkansas RAYMOND V. SHEPHERD, III, Staff Director and Chief Counsel LELAND B. ERICKSON, Counsel ELISE J. BEAN, Minority Staff Director and Chief Counsel DAN M. BERKOVITZ, Minority Counsel MARY D. ROBERTSON, Chief Clerk (II) VerDate 0ct 09 2002 09:54 Aug 01, 2006 Jkt 028640 PO 00000 Frm 00002 Fmt 5904 Sfmt 5904 C:\DOCS\28640.TXT SAFFAIRS PsN: PAT C O N T E N T S Page I. EXECUTIVE SUMMARY ................................................................................. 1 II. FINDINGS AND RECOMMENDATIONS ................................................... 6 A. Findings ........................................................................................................ 6 1. Rise in Speculation ................................................................................. 6 2. Speculation Has Increased Prices ......................................................... 6 3. Price-Inventory Relationship Altered ................................................... 7 4. Large Trader Reports Essential ............................................................ 7 5. ICE Impact on Energy Prices ................................................................ 7 B. Recommendations ........................................................................................ 7 1. Eliminate Enron Loophole ..................................................................... 7 2. Require Large Trader Reports .............................................................. 7 3. Monitor U.S. Energy Trades on Foreign Exchanges ........................... 7 4. Increase U.S.-U.K. Cooperation ............................................................ 7 5. Make ICE Determination ...................................................................... 7 III. RECENT TRENDS IN ENERGY MARKETS ............................................ 8 A. Increasing Prices .......................................................................................... 8 B. Increasing Amounts of Crude Oil in Storage ............................................ 12 C. Increased Speculation in Energy Commodities ......................................... 16 1. Increased Investments in Energy Commodities .................................. 16 2. The Effect of Speculation on Prices ...................................................... 17 3. Large Profits from Speculation in Energy Commodities ..................... 23 IV. NO COP ON THE BEAT FOR OVER-THE-COUNTER ENERGY MARKETS ........................................................................................................... 28 A. Development of OTC Electronic Markets .................................................. 29 B. No Oversight of OTC Electronic Markets .................................................. 32 C. No Large Trader Reporting in OTC Electronic Markets .......................... 35 D. No Public Dissemination of Trading Data by OTC Electronic Markets . 37 V. THE COP’S BLIND EYE: U.S. ENERGY TRADES ON FOREIGN EXCHANGES ...................................................................................................... 40 A. U.S. Energy Commodities Traded on Foreign Exchanges ........................ 40 B. ICE Futures Trading of U.S. Energy Commodities .................................. 41 C. Implications for Oversight of U.S. Commodity Markets .......................... 42 APPENDIX: MEASURING THE INCREASE IN SPECULATIVE TRAD- ING ....................................................................................................................... 44 A. CFTC Commitment of Traders Report ....................................................... 44 B. Increased Speculative Trading on the NYMEX ........................................ 45 C. Increased Speculative Trading on ICE ...................................................... 48 (III) VerDate 0ct 09 2002 09:54 Aug 01, 2006 Jkt 028640 PO 00000 Frm 00003 Fmt 5904 Sfmt 5904 C:\DOCS\28640.TXT SAFFAIRS PsN: PAT VerDate 0ct 09 2002 09:54 Aug 01, 2006 Jkt 028640 PO 00000 Frm 00004 Fmt 5904 Sfmt 5904 C:\DOCS\28640.TXT SAFFAIRS PsN: PAT THE ROLE OF MARKET SPECULATION IN RIS- ING OIL AND GAS PRICES: A NEED TO PUT THE COP BACK ON THE BEAT I. EXECUTIVE SUMMARY For the past 5 years, the U.S. Senate Permanent Subcommittee on Investigations has conducted a number of investigations into the pricing of energy commodities, including gasoline, crude oil, and natural gas.1 These investigations reflect a continuing concern over the sustained increases in the price and price volatility of these essential commodities, and, in light of these increases, the adequacy of governmental oversight of the markets that set these prices. Over the past 6 years, crude oil, gasoline, and natural gas prices have risen significantly. Crude oil has risen from a range of $25– $30 per barrel in 2000, to a range of $60–$75 per barrel in 2006. High crude oil prices are a major reason for the record or near- record highs of the prices of a variety of petroleum products, including gasoline, heating oil, diesel fuel, and jet fuel. The average price for a gallon of regular unleaded gasoline has jumped from $1.46 per gallon in 2000 to $2.36 per gallon over the past 12 months, with peaks at $3.14 per gallon in September 2005, and $2.93 per gallon in May 2006. Rising crude oil prices have helped push up natural gas prices as well: the price of natural gas has risen from $2–$3 per million BTU (British Thermal Unit) in 2000 to a typical range of $6–$8 per million BTU during the past year. The traditional forces of supply and demand cannot fully account for these increases. While global demand for oil has been increasing—led by the rapid industrialization of China, growth in India, and a continued increase in appetite for refined petroleum products, particularly gasoline, in the United States—global oil supplies have increased by an even greater amount. As a result, global inventories have increased as well. Today, U.S. oil inventories are at an 8-year high, and OECD oil inventories are at a 20-year high. Ac- cordingly, factors other than basic supply and demand must be ex- amined. For example, political instability and hostility to the United States in key producer countries, such as Nigeria, Ven- 1 See, e.g., Minority Staff, U.S. Senate Permanent Subcommittee on Investigations, U.S. Stra- tegic Petroleum Reserve: Recent Policy Has Increased Costs to Consumers But Not Overall U.S. Energy Security, S. Prt. 108–18 (March 5, 2003); Majority Staff, U.S. Senate Permanent Sub- committee on Investigations, Gas Prices: How Are They Really Set?, reprinted in Gas Prices: How Are They Really Set, Hearings before the U.S. Senate Permanent Subcommittee on Inves- tigations (S. Hrg. 107–509) (April 30 and May 2, 2002), at p. 322; U.S. General Accounting Of- fice, Effects of Mergers and Market Concentration in the U.S. Petroleum Industry, Report to the Ranking Minority Member, U.S. Senate Permanent Subcommittee on Investigations, GAO–04– 96 (May 2004); Volatility in the Natural Gas Market: The Impact of High Natural Gas Prices on American Consumers, Hearing before the U.S. Senate Permanent Subcommittee on Investiga- tions (S. Hrg. 109–398) (February 13, 2006). (1) VerDate 0ct 09 2002 09:54 Aug 01, 2006 Jkt 028640 PO 00000 Frm 00005 Fmt 6633 Sfmt 6633 C:\DOCS\28640.TXT SAFFAIRS PsN: PAT 2 ezuela, Iraq, and Iran, threaten the security and reliability of these supplies. Furthermore, in each of the past 2 years hurricanes have disrupted U.S. oil and gas production in the Gulf of Mexico. As Saudi Arabia has increased its rate of production to meet increasing demand, its ability to pump additional oil in the event of a shortfall has declined, thereby providing less of a cushion in the event of a supply disruption. It is often asserted that these fears over the adequacy of supply have built a ‘‘risk premium’’ into crude oil

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