After a Five-Year Rally, the Commodities Market Has Turned Ugly. As Prices

Blo o m b e r g M a r ke t s COMMODITIES 120 November 2006 CRUNCH By Edward Robinson ‚At 7:55 a.m., five minutes before the opening bell, An- thony Compagnino and Michael Ragazzo huddle in their office on the New York Board of Trade floor—a booth with a dozen telephones and no chairs—to plot their next move in the cocoa pit. “I should have picked a less stressful job, like bomb defusing,” says Ragazzo, a commodities broker at East Coast Options Services. After five years, the rally in commodity prices has hit a wall. For two days, Ragazzo and Compagnino, his boss, have been selling cocoa futures as prices have plummet- ed 15 percent. Hedge funds that have been riding the richest commodities boom in a generation have dumped cocoa en masse, upending the market. Now, on July 19, the guys at East Cost Options agree that the worst is over. Compagnino, 46, wearing a blue and gold trader’s jacket, hustles to the top rung of the cocoa pit, the tiered ring where trading takes place. Ragazzo, 48, in a matching coat, takes up a position nearby, a phone to each ear. The bell sounds—and all hell breaks loose. One floor broker barks a bid to buy cocoa for September delivery for $1,517 a metric ton. Another hollers an offer to sell at $1,507. The traders down in the pit can’t settle on a price. Compagnino starts selling. “Thirty Seps at 18! Thirty Seps at 18!” Compagnino thunders, offering to sell 30 September contracts on cocoa for $1,518 per ton. The fate of a single futures contract is just one worry Lords of the ring: Nymex local Eric for New York Board of Trade brokers and their counter- Bolling, center, hollers an order amid parts around the world. The Reuters/Jefferies CRB Price the throng of traders on the floor. Index, which tracks a basket of 19 commodities, sank to Pit 313.73 on Sept. 11, its lowest level since March 9, 2005. Since May, the index had lost almost 12 percent as crude After a five-year rally, the oil fell to less than $65 a barrel and gold slid below $600 an ounce. After doubling to a 24-year high of 19.3 cents commodities market has a pound on Feb. 3, sugar plunged 40 percent. For traders like Compagnino, that was no small mile- turned ugly. As prices tumble stone. The decline marks the market’s first reversal since 2001, when China’s voracious appetite for raw materials and hedge fund firms such as and trades by the $1.2 trillion hedge fund industry com- bined to send prices soaring. Amaranth reel, floor traders The question now is whether the drop is nothing more than a hiccup in a bull market that still has years brace for a wild ride. to run—or the start of a commodities bust. Bulls PHOTOGRAPHS BY PETER ROSS Blo o m b e r g M a r ke t s 122 November 2006 Bears like Stephen Roach, New York–based chief global the world’s largest marketplace for commodities such as sugar, economist at Morgan Stanley, say the bust is already under cotton, coffee and cocoa, earns about $200,000 a year. A way. “The megarun for commodities has run its course,” Roach, hotshot on the New York Mercantile Exchange, the world’s 61, says. China’s demand for industrial commodities, which largest energy exchange, can pull down $10 million. has driven prices higher for years, is going to slacken, he says. “Never in my wildest dreams did I think I would make The People’s Bank of China has raised interest rates twice this the money I made in the last couple of years,” Compagnino year to cool an economy that grew 11.3 percent during the sec- says. He’s used his winnings to buy a 5,300-square-foot ond quarter. (490-square-meter) house with a pool in the New York bor- ough of Staten Island. ulls like Jim Rogers, who co-founded the famous The New York Board of Trade has become a hot commodi- Quantum Fund with George Soros, say commodities ty itself. In September, IntercontinentalExchange Inc., an At- B have plenty of steam left. The previous bull market ran lanta-based electronic marketplace, agreed to buy the bourse for 14 years, from 1968 to ’82, and this one will last at least for about $1 billion in cash and stock. that long, Rogers, 63, says. Rogers, chairman of Beeland Inter- On the Nymex floor, Eric Bolling, an independent trader, ests Inc., a New York–based investment firm, says the recent or local, says he’s made a killing, too. Bolling, a square-jawed slump is a short-term correction. “The idea that this is a bub- man who once played third base for a minor-league baseball ble is laughable,” Rogers says. Over the long haul, China and team affiliated with the Pittsburgh Pirates, says he’s scored India will devour raw materials as they emerge as economic this year by betting that the prices of natural gas and crude oil powers. Supply won’t be able to keep up with demand, he says. would converge. He did so well that in August he jetted off for Just look at oil. As recently as 1992, China was self-sufficient a vacation in the Bahamas. “I can’t go anywhere that doesn’t in oil. Today, it’s importing 40 percent of its needs. (See “Chi- have a casino,” Bolling, 43, says. na’s Axis of Oil,” page 132.) Over at New York–based Comex, the world’s largest gold Caught in the middle of all this are pit traders like Com- and silver marketplace, Kevin Grady says he’s thrived as a pagnino. They make money either by buying and selling on be- “scalper” in the gold pit. Grady trades for London-based Man half of trading desks, money managers and companies that Financial, a unit of Man Group Plc, the world’s largest public- produce or use commodities or by wagering their own money in ly traded hedge fund manager. Grady tries to make money by the markets. Futures—agreements to buy or sell specific securi- watching what his rivals are doing—“reading the ring,” he calls ties or commodities at a specific price on a certain date—are part it—and then dodging in and out of the market. “Markets of the $8.7 billion–a-day market in exchange-traded commodity change constantly, and gold traders have to sense that,” Grady, derivatives, a family of instruments that also includes options. 42, says. Like Compagnino, Grady grew up in Brooklyn and The boom has been good to the folks on the floor. Ex- came to the pits after dropping out of college. changes like the New York Board of Trade are among the last The commodities pits can be lucrative—and dangerous. places on Wall Street where a guy like Compagnino—who Traders like Bolling, Compagnino and Grady must avoid getting grew up on the Brooklyn waterfront and quit college after a steamrollered by the hedge funds and Wall Street investment year—can still strike it rich. A typical broker on the NYBOT, banks that rush in and out of the markets. Since 1999, the amount �� Commodities Crunch B l o o m b e r g M a r ke t s L A B E L H E R E November 2006 123 of money invested in commodities by pension funds, mutual spect as weekend gamblers in Las Vegas. “The stock brokering funds and endowments has soared almost 17-fold, to $100 billion fraternity deemed commodities as very ‘spivvy,’ very high risk,” from $6 billion, according to Barclays Capital, the securities unit Overlander, 54, says. “We were treated with disdain.” of London-based Barclays Plc. Hedge funds, commercial banks Compagnino waited a long time for a run like this. He says and Wall Street firms, meantime, have poured about $50 billion that when he was 18, he wanted to be a doctor and enrolled at into the market, according to John Normand, London-based Brooklyn College. He dropped out after one year because he global currency, commodity and fixed-income strategist at JPM- didn’t like school and got a $150-a-week back-office job at organ Chase & Co. Hedge funds have pumped up prices and trading in copper, Hedge funds have roiled natural gas and even cocoa, traders say. Richard Bernstein, chief investment strategist at Merrill Lynch & Co., found in June and commodity prices by rushing July that many commodity prices were 20–50 percent higher than they should have been because so much hot money had in and out of markets. Now, flooded in. some have lost big. “We used to think 200 contracts was a big trade, but hedge funds put on trades with 2,000 contracts,” says Michael Over- Shearson Hayden Stone Inc., where Sanford Weill, the man lander, a 30-year veteran of the pits and co-founder of Sucden who would go on to create Citigroup Inc., was chairman. (UK) Ltd., a London-based commodities brokerage. “They One day in 1980, Compagnino was dispatched to the World come in bullish and keep the market up, but when they turn, Trade Center to retrieve some trading tickets. There, he saw a you can see some pretty severe reactions.” gold trader make $15,000 in 15 minutes. “I knew that’s what I Some hedge funds have stumbled hard lately.

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