U.S. efforts to curb speculative derivatives trading in the wake of the 2008 financial crisis were blocked by a federal judge, who ruled that regulators botched the process used to put new limits in place.
Less than two weeks before curbs were set to take effect, U.S. District Judge Robert Wilkins in Washington ruled that the 2010 Dodd-Frank Act required more study before setting caps on positions in oil, natural gas, wheat and other commodities. The Commodity Futures Trading Commission failed to first assess if the rule, slated to take effect Oct. 12, was necessary and appropriate under the law, the judge ruled yesterday.
Ken Bentsen, executive vice president at the Securities Industry and Financial Markets Association, described the ruling as "an important precedent in the rulemaking process."
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"It's a win for all market participants in the economy when regulators have to follow the law clearly and do the economic analysis Congress has deemed is necessary," Bentsen said in an interview.
The lawsuit, filed in federal court in December by Sifma and the International Swaps and Derivatives Association Inc., was part of the financial industry's efforts to weaken Dodd- Frank, the law enacted following the 2008 credit crisis. The associations represent JPMorgan Chase & Co., Goldman Sachs Group Inc., Morgan Stanley and other banks and energy trading firms.
The so-called position limits rule spurred more than 13,000 public comments from supporters such as Delta Air Lines Inc. and opponents including Barclays Plc.
"I believe it is critically important that these position limits be established as Congress required," Gary Gensler, CFTC chairman, said in a statement issued yesterday. "I am disappointed by today's ruling, and we are considering ways to proceed."
The commission estimated that the limits would affect 85 energy trading firms, 12 metals traders and 84 traders of certain agricultural contracts. The agency could decide to appeal the decision or try to pass a new rule limiting positions.
"This is obviously tough news for those of us who believe there's too much speculative concentration in commodity futures and swap markets," Bart Chilton, one of three Democrats on the CFTC, said in an e-mail. "There's no question that huge individual trader positions have the potential to influence prices in a way that hurts legitimate hedgers and ultimately consumers."
Commodities
The limits, completed in a 3-2 vote on Oct. 18, 2011, applied to 28 physical commodity futures and their financially equivalent swaps including contracts for corn, soybeans, oats, cotton, heating oil, gasoline, cocoa, milk, sugar, silver, palladium and platinum. Republican commissioners Jill E. Sommers and Scott O'Malia opposed the rule.
"The court expressly stated that the commission had failed to adhere to the plain reading of the statute, which unambiguously requires a finding of necessity before establishing position limits," O'Malia said in an e-mail. "I strongly agree with the court's assessment."
The rule called for traders to aggregate their positions, a change that may have affected large firms with multiple strategies. It also would have tightened an exemption allowing so-called bona fide hedgers to exceed the caps.
The agency faced pressure from Democrats to support limits on the number of contracts any trader can have. Senators Carl Levin, a Michigan Democrat, Maria Cantwell, a Washington Democrat, Bill Nelson, a Florida Democrat, and Bernie Sanders, a Vermont Independent, criticized the agency for missing Dodd- Frank deadlines to enact the limits.
The financial industry's lawsuit prompted 35 Democratic senators and representatives to file briefs in the court case urging the judge to uphold the law.
"Congress decided it wanted position limits," Nelson said yesterday in a statement. "It directed regulators to put them in place. That should be all that's necessary. This is the big banks getting their way again."
In the ruling, the judge wrote that his decision didn't close off the possibility the agency could rewrite the rule in a way that wouldn't violate the law.
"The CFTC's error in this case was that it fundamentally misunderstood and failed to recognize the ambiguities in the statute," Wilkins wrote.
Republicans in Congress said the ruling underscored the need for regulators to assess the economic costs of Dodd-Frank.
Failed the Challenge
"President Obama's hand-picked CFTC chairman has repeatedly failed to enforce existing regulations, and now he's failed the first challenge to a regulation he authored," said Senator Richard Shelby of Alabama, the top Republican on the Banking Committee. "The last thing our struggling economy needs is more regulation without justification."
The agency will struggle to complete a new rule setting speculation limits, John Hyland, chief investment officer of U.S. Commodity Funds LLC, said in a telephone interview.
"This will go to the economists. They'll ask for more comments," Hyland said in an interview. "At best what you'll get back is ambiguous support for position limits. I don't think you can torture the data enough that you'll get strong support."
The case is International Swaps and Derivatives Association v. U.S. Commodity Futures Trading Commission, 11-02146, U.S. District Court, District of Columbia (Washington).
Bloomberg News
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