Dan Dicker on CFTC v. Parnon Energy, Commodities Regulation, Goldman Sachs and Morgan Stanley Oil Calls

I had a chance to catch up with Dan Dicker on Benzinga Radio earlier this week. Dan, a veteran oil trader, just wrote a great new book on structural issues in the oil markets called Oil's Endless Bid: Taming the Unreliable Price of Oil to Secure Our Economy.

Back on May 11, 17 U.S. senators signed a letter to the CFTC demanding that the CFTC make moves on oil speculation. The letter demanded a plan of action from the CFTC no later than May 23. Two weeks later, on May 24, in a classic diversion, the embattled CFTC brought a case against Parnon Energy, Arcadia Energy, and Arcadia Petroleum. The case alleges the firms engaged in a complicated price manipulation scheme back in 2008 to net a $50 million profit. I asked Dan about his thoughts on the case and what it says about the CFTC. Dan:

"First of all, we should put this in perspective. Three years after the fact, for the CFTC to find this small group of guys manipulating the cash markets for $50 million--to you and me that's real money, but for these guys, that's like the spare change you would find in your couch."

"So, it's not a very impressive indictment for the CFTC to find after the unbelievable gyrations of oil that we had in 2008-2009."

"What people should really focus on is how in many ways incompetent the CFTC is about this. They're really getting excited about this very, very, very small manipulation that's going on in an oil market in a year when oil prices basically went up six-fold in three years and then dropped 80% in eight months."

"So, this should not make anybody happy. This is almost a negative, in some ways, to find such a small fry in the midst of what was going on in the oil market during that year-and-a-half."

Note that while this was going on in the midst of the run-up in oil prices during the summer of 2008, the alleged price manipulation and subsequent profit taking in this case occurred entirely during a time period when the price of oil was still trading below $100 a barrel. After the manipulators cashed in and got out of the game, the crude spot made its final march to a high of $147.27 in July. "Entirely unrelated to that run-up in oil prices, like the most minor drop in the bucket of what was going on that year," Dicker said.

So, while Congress looks past the real issues behind wild price swings and instead puts pressure on the CFTC to do something, and the CFTC, in turn, does essentially nothing, we watch the crude oil spot with great anticipation. The influence of index funds on these markets has been well described by people like Dan Dicker, Frederick Kaufman, and Matt Taibbi.

"The CFTC has been hamstrung in a lot of ways in terms of doing their job in Dodd-Frank and also been afraid to move beyond what their small, little circle is in order to try and move some of the speculation out of oil markets."

"I've suggested, for example, an outright ban on all indexes on commodities themselves and all ETFs that trade in futures on commodities as a way of moving, at least, some of the engine of speculation. This is what's really driving these incredible moves in all of the volatility and it's what's driving all of the over-the-counter derivatives that is making oil as volatile as it is today."

Probably not going to happen any time soon. Nor is a repeal of the exemption the big money was given back in 1991 to allow investment banks to enter the commodities markets and subsequently set up those index funds to make those markets accessible to everyone. Dan:

"When you see the list of people who are arguing against even the small reforms that Dodd-Frank is arguing for, I mean, it's a who's-who of the most important and powerful funds, and bankers, and hedge funds, and traders globally. To think that the government is going to be able to buck that trend is, I think, a very slim chance."

To recap so far: Congress, who ostensibly has the ability to enact reform, passes the buck to the CFTC. The CFTC, which is hamstrung by the red tape dished out by the congressional debate surrounding Dodd-Frank, goes after a meaningless case in order to put a face to the demonized "speculators" bemoaned by President Obama, Congress, and the media.

Meanwhile, pension funds, hedge funds, individual investors, and pretty much anyone looking to include hard assets in a portfolio diversification plan (okay, sure, it seems so innocuous, but let us count the costs) pours dollars into index funds set up and managed by investment banks who, before 1991, were not allowed to participate in those commodities markets at all. To mix any of this up a bit, you have to go toe-to-toe with "the most important and powerful funds, and bankers, and hedge funds, and traders globally."

Now, check this out. The banks that manage those index funds granting the whole world access to those commodities markets also happen to put out research notes on those same commodities, and their research happens to be very influential in the investment community. One could call them "important players." How important? Dan:

"Goldman Sachs is, without question, the most important oil trader and oil analyst on the planet, bar none, by a lot. And they know that. There is no doubt about that. Jeff Currie in London knows that. They've been pretty good about the way that they wield that power over the last several years. They've tended to be very long in terms of its life and in terms of its viewpoint. It's not a trading vehicle. It's an investment kind of idea that will last for months, and normally years."

"[Goldman] controls not only their own proprietary desk, which is enormous, they control their clients' oil money, which is enormous, and they know that basically the entire world is listening to them because they've been right so often. So, we're talking about billions upon billions upon billions of dollars looking at these guys for direction."

"It's not surprising that when they call for oil to go up, it goes up. When they call for oil to go down, it happens to go down, and when they call for the correction to be over--despite the fact that everything, just about every other economic point would lead you to believe that oil is not going to go back--but, sure enough, it's rallying back."

Goldman's latest note on oil says "buy." This is the same Goldman that just completed two consecutive downward revisions of U.S. GDP and emerging market growth numbers. Of course, as with oil, the S&P 500, and just about any other projection they publish, it certainly can't hurt Goldman if Goldman is a little off to the upside; there will always be believers and they can always revise downward after the fact. This is the best part, so I'll let Dan take it from here:

"Both firms--both Morgan Stanley and Goldman Sachs--have looked at global growth numbers and have analyzed them down twice in the last two weeks alone. Goldman was over 4% on U.S. growth, and now they're down to under 3% after two grades. In China, they've also cut back their growth numbers; both firms have."

"So, is the right hand talking to the left hand? What the heck is going on here? To want to buy oil at this level, here at $100, considering what the other side of the bank is saying about growth numbers--particularly emerging market growth, which is where all the swing barrels have to come from."

It's crazy talk.