I just finished Robert Sheer’s book, The Great American Stickup, which traces the roots of the current economic crisis back to the early 90s, when a bi-partisan (isn’t bi-partisanship great?) group of scam artists, including Phil Gramm and his wife Wendy on the R side, and Robert Rubin and Larry Summers on the D side, effectively deregulated trades in derivatives and tore down the wall between banks and investment firms. The one heroine of the book is a woman named Brooksley Born, who briefly headed the Commodity Futures Trading Commission. Ms. Born suggested that the Commission might consider studying the question of whether it was really a good idea to unleash unregulated instruments like credit default swaps on an unsuspecting world and that something might, just possibly, go wrong, but she was squashed, it being obvious that 1) even a study of such things would destroy market confidence and 2) nothing could possibly go wrong. I am not misrepresenting on either of those points, that’s what the big guys said, including the sage, Alan Greenspan.
We’ve come a long way since then. Brooksley Born met her deserved fate. She was chewed up and spit out, and no one hears from her anymore. Something did go wrong, but curiously enough, this has not shaken the faith of the people who brought on this crisis that, in fact, nothing can go wrong, and if it did, well, these things happen and who could have seen it coming? Only people like Brooksley Born, and when was the last time she was on the Sunday shows, or was named an adviser to the president? There are lots of things Washington forgives, but it will never forgive someone for being right.
So that’s settled. Nothing can go wrong, and one thing you don’t want to do is be a Brooksley Born and say that something could. Fast forward to today, and we find that the SEC says that nothing could go wrong if it lets JP Morgan corner the copper market.
An SEC action that appears likely to do considerable harm to companies and individuals in the US and abroad appears to have gone completely unnoticed, save for an important piece in The New Republic by Linda Khan.
Heretofore, as Kahn describes, the main participants in physical commodities markets ex precious metals have been end users. While there have been reports of metals hoarding in China, it’s not easy for most investors to do since they are bulky. (Oil is a special case, since producers can speculate simply by “inventorying” oil by keeping it in the ground; above ground storage is limited and not as “efficacious” in the words of oil investor Dan Dicker, as one might think. The picture is oil is further complicated by the fact that the prices for OPEC oil are based on an average of futures prices, not spot prices, which producers found were subject to manipulation).
The SEC has paved the way for investors to take a direct stake in commodities, rather than through commodities futures. The agency gave the green light to JP Morgan to launch a fund whose shares would be backed by warehoused copper. The implications are not pretty. Per Khan:
In practical terms, the SEC handed traders at J.P. Morgan control over 20 to 30 percent of the copper available for immediate delivery from the London Metals Exchange — the commercial market where companies that use copper go to procure last-minute supplies.
The investors purchasing shares in J.P. Morgan’s fund won’t be buying copper to use, but to store. The intricacies of the fund are complex, but its underlying rationale is straightforward: the more shares investors buy, the more copper is taken off the market. And the more copper that is taken off the market, theoretically the more valuable the copper and the shares become.
Moreover, it’s a no-brainer that this JP Morgan “innovation” will lead to the creation of copycat fund in other markets, most troublingly those for agricultural products.
(via naked capitalism)
Keep in mind that none of this adds an ounce of copper (or a grain of wheat, when they start cornering that) to what would otherwise be produced. To an outside observer, it might appear obvious that the sole point of forming such a fund is to artificially drive up the price of copper so that the investors in your fund can get a huge return for doing something with no social utility. After all, why would anyone buy shares in this venture unless that’s precisely what they expected JP Morgan to do? Our outside observer might think this sounds like-well – like allowing an Enron to manipulate the market for electricity, but that’s because outside observers are so naïve. The SEC has looked into this, and perhaps because no one there wants to end up being a Brooksley Born, so far as it can see, nothing can go wrong.
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