Statement of

Terrence A. Duffy

Executive Chairman of CME Group Inc.

Before the

United States House of Representatives

Committee on Agriculture

July 11, 2008

I am Terrence Duffy, Executive Chairman of Chicago Mercantile Exchange
Group ("CME Group" or "CME") Thank you, Chairman Peterson and Ranking
Member Goodlatte, for this opportunity to present our views.

CME Group was formed by the 2007 merger of Chicago Mercantile Exchange
Holdings and CBOT Holdings. CME Group is the parent of CME Inc. and The
Board of Trade of the City of Chicago (the "CME Group exchanges"). The
CME Group exchanges are neutral market places. They serve the global
risk management needs of our customers, producers and processors who
rely on price discovery provided by our competitive markets to make
important economic decisions. We do not profit from higher food or
energy prices. Our Congressionally mandated role is to operate fair
markets that foster price discovery and the hedging of economic risks in
a transparent, self-regulated environment, overseen by the CFTC.

The CME Group exchanges offer a comprehensive selection of benchmark
products across all major asset classes, including futures and options
based on interest rates, equity indexes, foreign exchange, agricultural
commodities, energy, and alternative investment products such as weather
and real estate. We also offer order routing, execution and clearing
services to other exchanges.

**I. [Increased transparency through imposition of reporting
requirements for foreign boards of trade and other platforms is
appropriate. ]{.underline}**

We unequivocally support your efforts to materially improve the
enforcement capabilities and machinery of the CFTC and to do so in a
manner that does not increase the costs of trading on fully regulated
U.S. contract markets. We also are enthusiastic supporters of broadly
expanding the mandatory reporting of energy trading and position
information to the Commission. We share the view of regulators and
legislators most famously expressed by Justice Louis Brandeis:

> "Publicity is justly commended as a remedy for social and industrial
> diseases. Sunlight is said to be the best of disinfectants; electric
> light the most efficient policeman."\
> -- Justice Louis Brandeis, *Other People's Money, and How the Bankers
> Use It*, 1933

We believe that disclosure of trading and position information to a
regulator with sufficient resources to analyze and act on unusual or
suspicious activities will deter most potential manipulators and assure
punishment of those foolish enough to attempt a manipulation when all of
their actions are visible to the regulator. This is the philosophy upon
which our internal market regulation has been based and why it has been
so successful.

We also clearly understand that the recent surge in the prices of many
commodities, particularly energy, has inspired Congress to look for
assurance that the only price drivers are legitimate supply and demand
factors. Some who claim expertise or special knowledge have asserted
that the entire price inflation can be laid at the door of speculators
and/or passive index funds that have invested billions in commodity
contracts. The more cautious critics have suggested that there may be a
froth of inflation caused by speculation. Our careful, up-to-date
evaluation of market participants and trading patterns in the
commodities traded at CME and CBOT are to the contrary. We have placed
relevant information on our website, which will permit others to review
our findings to date respecting the impact of speculation on our
markets.

Our economists make convincing arguments that neither speculators nor
index funds are distorting commodity prices. Previous studies have
concluded that speculation has not been responsible for any significant,
persistent volatility in futures markets. Nonetheless, we are strong
proponents of securing all of the relevant information from all sources
and fairly testing the hypothesis and reconfirming previous academic
studies. While we expect that the evidence respecting the impact of
speculation and index trading in energy markets will parallel the
results we have found in our own markets, we agree that there is no
reason to rely entirely on economic theory when the data is or can be
made available. We support the efforts of the CFTC and Congress to
secure this data and to assure that a thorough analysis informs any
subsequent legislative or administrative efforts to deal with uneconomic
price inflation.

Increased reporting on swaps transactions would provide much needed
transparency to these unregulated markets. The CFTC should have access
to this data so that it can make an informed decision that speculation
is not leading to a premium in the price of energy commodities. We
recommend that the reporting requirement not be linked to
exchange-traded transactions so as not to drive business off
fully-regulated exchanges.

**II. [Position limits on foreign boards of trade listing]{.underline}
[clones of U.S. DCM listed contracts ]{.underline}**

Position limits are a device to promote liquidation and orderly delivery
in physical contracts. If two markets share the same physical delivery
contract it is consistent to apply a single limit across both markets.
However, we are not aware of a foreign board of trade that lists a
physically deliverable futures contract that is a clone of a U.S.
designated contract market's (DCM) listed contract.

The ICE U.K. market lists a WTI crude oil contract that is traded and
settled based on the settlement prices of the NYMEX WTI contract. The
ordinary reasons for imposing position limits on futures markets do not
apply in such a case. It is possible to imagine a trader who is long a
limit position at NYMEX and double that position at ICE U.K. That trader
might expect to profit, if not caught, by driving up the settlement
price on the final day of trading on NYMEX by standing for delivery,
even though he would be required to store and then sell the oil back at
a loss, in the hope to profit from the settlement on ICE. Of course,
such behavior will be obvious to the regulators and the markets and the
manipulator would neither enjoy the profits nor much additional freedom.
Moreover, the impact on the price of oil would be transitory.

Setting aside theoretical understanding, we support a temporary
imposition of position limits on the ICE Futures U.K. WTI contract until
the CFTC is able to secure and analyze a more complete data set
respecting the impact of speculation and/or indexed commodity trading on
price inflation. We do not imagine that any harm will be done and this
action will allay concerns.

**III. The [exemption for commercial markets in energy products, even as
limited by the recent amendment of the CEA, is unnecessary and creates
information gaps.]{.underline}**

In the aftermath of the Amaranth controversy, Congress provided CFTC new
authorities in the recently enacted Farm Bill to regulate "significant
price discovery contracts" on platforms like ICE by requiring those
platforms to meet certain core principles drawn from the longer list
applicable to fully regulated exchanges. It is clear that when Congress
wants to ensure fair dealing and regulatory propriety, it uses as its
comparative yardstick the regulatory regime imposed on America's fully
regulated exchanges.

Trading that is conducted on fully regulated exchanges is an open book
to which you already have complete access and accountability. Indeed,
CFTC monitors that exchange trading daily and has repeatedly opined that
speculation on those fully regulated exchanges does not raise regulatory
concerns. But that is not the case with the other forms of energy
commodity trading, which lie outside the reach of CFTC regulation and
are far larger in size in terms of trading volume.

Section 5(b) of the Commodity Exchange Act charges the Commission with a
duty to oversee "a system of effective self-regulation of trading
facilities, clearing systems, market participants and market
professionals" and "to deter and prevent price manipulation or any other
disruptions to market integrity; to ensure the financial integrity of
all transactions subject to this chapter and the avoidance of systemic
risk; to protect all market participants from fraudulent or other
abusive sales practices."

These "purposes" and the statutory exemption for Commercial Markets
found in Section 2(h)(3) are in conflict. The key purposes mandated by
Congress in Section 5(b) are jeopardized if trading facilities for
contracts in exempt commodities are permitted to coexist with regulated
futures exchanges that list those same commodities. Exempt Commercial
Markets (ECMs) do not have any system of "effective self regulation" of
their facilities or of their market participants. Their contracts are
traded based on the prices of commodities that have limited supplies and
that have often been the subject of manipulative activity and disruptive
market behavior. There is no mechanism in place "to deter and prevent
price manipulation or any other disruptions to market integrity." The
Commission cannot track the build up of dominant positions. At best, the
Commission has power to punish such conduct after the fact. We find this
to be a serious problem that is at odds with Congress' intent behind the
CFMA, which, if left unaddressed, jeopardizes the public's confidence in
the CFTC's ability to do its job.

The Section 2(h)(3) exemption for unregulated commercial markets should
be eliminated. You cannot fix the problem by merely changing reporting
requirements. In order to secure accurate reports, a market needs an
effective surveillance and compliance system. This requires that an
effective system of self regulation must be put in place. The logical
conclusion is you must implement at least the core principles required
of a derivatives transaction execution facility (DTEF) to get a useful
result.

**IV. [Mandating an arbitrary increase in margin for futures above
prudential levels is counterproductive and potentially destructive to
U.S. futures markets and Congress should reject calls to do so.
]{.underline}**

Beginning several weeks ago, there was a strong suggestion that driving
speculators from the markets will bring commodity prices, in particular
oil, back to some "correct" level below what exists today. Worse still,
these critics argue for driving speculators from the market by
government-mandated increases in margins. The most prominent witness
before Congressional committees was a large speculator in airline and
automobile stocks that may have benefited from the precipitous actions
he advocated. Fortunately, enough time has passed to permit a strong
counter-current from economists and editorial writers debunking those
claims[^1].

Nonetheless, legislation has been proposed to mandate margin increases,
which would require hedgers and speculators to increase the level of
performance bonds required to guarantee performance of their contractual
obligations to the clearing house. The theory behind the legislation is
this: increased costs will drive speculators out of the futures markets
and prices will retrench to more comfortable levels, because speculators
with long positions are assumed to have caused price escalation in the
first place. This idea is seriously flawed and reflects a lack of
understanding of the role of margin in futures markets.

The discussion of margin increases during recent congressional hearings
makes it abundantly clear that many legislators wrongly assume the
concept of margin in futures markets is similar to that in equity
markets. In other words, they think of it as an extension of credit or a
down payment on the cost of a security. However, the notion of "credit"
has nothing to do with the concept of margin as used in futures markets.
In futures markets, margin is not an extension of credit. Rather, margin
is the equivalent of a performance bond designed to ensure that
contractual obligations are met and that clearing houses can fulfill
their responsibilities. Margins are not intended to create incentives or
disincentives for trading decisions.

In futures markets, margin -- aka performance bond -- is set at a level
to cover, with a high degree of confidence, any change in the underlying
value of a futures contract during a single day of trading. It has
nothing to do with the notional or face amount of the contract. For
example, performance bond on a \$36,700 CBOT corn contract is currently
set at \$2,025, while performance bond on a \$100,000 thirty year bond
contract is set at \$3,510. In each case, the holder of the contract
must make good on his losses and conversely gets credit for his gains on
a daily basis. Our clearing system continuously holds 100 percent
collateral for a near worst case loss scenario. The cost of depositing
collateral or cash with the clearing house is considered a cost of
trading.[^2]

Based on our strong track record of zero credit defaults in the 100-plus
year history of CME Clearing, we believe our current system for
calculating margin is the most prudent and sound approach to margining.
So do the rest of the world's futures markets, a majority of which
utilize the same concept of margin created by CME Group. Mandating
arbitrary margin levels would not improve the functioning of energy and
commodity futures markets and would interfere with the prudential risk
management practices of central counterparty clearing houses. To urge
Congress to arbitrarily interfere with this well-functioning system of
margin invites substantial risk to the proper functioning of futures
markets. Given the critical juncture of policy deliberations, it is
imperative that Congress recognize the fallacies and misunderstandings
that are prompting calls to meddle artificially with this time-tested
margin concept.

First, advocates of arbitrarily raising margin assume that speculators
are all on the long side of the market and that this herd approach to
trading has driven prices above their legitimate equilibrium level. All
of the leading academic work in the field, as well as our extensive
internal studies, support the opposite view -- namely, that speculators
are about equally divided on both sides of the market.

Second, the imposition of artificially high performance bonds is a tax
on trading as it raises a trader\'s cost. This has been repeatedly
demonstrated, and ever more so as markets have become electronic and
available from anywhere around the globe. Indeed, excessive performance
bond levels drive users away from transparent, regulated U.S. futures
markets and into opaque, unregulated OTC markets. And remember, the OTC
markets have less liquidity, less price transparency and no public
accounting for traders\' positions. This is a net loss to the
Congressionally defined purpose of creating fair, efficient and
well-functioning energy and commodity markets.

Our extensive market regulation experience -- and our experience with
previous efforts to control commodity prices by means of adjusting the
level of performance bond -- have established the fact that artificially
increasing margins is not effective. Raising margins to drive
speculators on the long side of the market out of the market in a time
of upward trending prices does not work. The speculators who have been
long have been collecting the profits on their positions. They are in an
especially strong position to meet any additional margin call. Moreover,
they are well aware that traders on the short side of the market have
been losing money and probably have been forced to borrow to support
their short hedges. Therefore, they will be pressed to meet increased
margin calls and forced out of the markets.

A North Dakota farmer who sold corn futures at a new high of \$5 a
bushel and locked in a \$2 per bushel profit needs to be able to carry
his hedge until his crop is harvested. A single contract is 5,000
bushels and margin is now set at \$1,000 per contract. Assume the farmer
had sold 100 contracts. Corn was \$7 this morning and the farmer has
been forced to go to his bank to borrow \$2 x 5,000 x100=\$1,000,000 to
continue to carry the position. If margins are artificially raised to
some arbitrary level, the long speculator will be in a very favorable
position knowing that the short hedger is going to have to go to the
bank and borrow millions more to hold his hedge position until his crop
is harvested. The cost to hedgers can be even more drastic when the
country is in the midst of a severe credit crunch.

Moreover, there is no evidence that artificially increasing performance
bonds will drive well-capitalized index funds or other passive long-only
investors to sell. Nor is there evidence that the impact of any such
selling would be beneficial or positive for hedgers and commercial users
of futures markets. Generally, these investors are not leveraged and are
in the best position to margin up to 100 percent. Long index traders
will not be driven from the market, because they already have a fully
collateralized account that is held on behalf of their clients. By
increasing the amount of those funds that are required to be posted for
margin, the index trader just transfers treasury bills from one account
to an account accessible to the clearing house. There is no cost to this
class of trader.

One of the pending bills attempts to deal with the adverse impact on
hedgers by giving relief to the speculator on the opposite side of the
hedger. There is no such person. Every hedge transaction invites a chain
of speculators as counterparties over its lifetime. In fact, the
counterparty to every futures contract is the clearing house, not any
identifiable speculator. This approach will not work.

Though it is tempting to view the current commodity market situation as
unique historically, Congress may find it valuable to recognize the
lessons arising from a period not so long ago when speculation in
agricultural markets raised similar concerns as we are experiencing
today. In a study published in June 2008[^3], University of Illinois
Professors Sanders, Irwin and Merrin examined the agricultural markets
of 1972 through 1975, the last period with comparable episodes of
structural change marked by all-time high commodity price increases. The
researchers indicated that the commodity environment was influenced by
structural shifts such as oil embargoes, Russian grain imports, and the
collapse of the Bretton Woods fixed exchange rate system. Their findings
have particular relevance to the current situation facing our nation.
Indeed, in the troubled context of the agricultural commodity markets of
1972-1975, commodity price increases were often blamed on speculative
behavior associated with the tremendous expansion of futures trading in
a wide range of commodities.

We find the conclusions reached by Sanders et al to be very useful with
regard to today's hearing:

> The complex interplay between these factors and how they impact price
> expectations is often difficult to grasp in real-time. So, much like
> the mid-1970's, the scapegoat for commodity price increases seems to
> have become the speculator. The present research suggests that current
> levels of speculation -- given hedging needs -- are at historically
> normal levels. Indeed, Working's T \[an objective index of speculative
> activity\] in many agricultural futures markets is at levels
> associated with 'inadequate' speculation in the past. If this is the
> case, then policy decisions aimed at curbing speculation may well be
> counter-productive in terms of price levels and market volatility. In
> particular, these policy initiatives could severely compromise the
> ability of futures markets to accommodate hedgers and facilitate the
> transfer of risk.

As in the 1972-1975 period, we can certainly understand how appealing it
would be for Members of Congress to believe that increasing margin is a
sure-fire, fast-track way to lower commodity speculation and in turn
lower commodity prices -- by perhaps 50 percent in 30 days. While the
allure of this suggestion is understandably seductive on a political
level, Congress can ill afford to make a misstep in this regard. The
downside risk of arbitrarily mandating increased margin for futures is
enormous. Congress's credibility is at risk in adopting simplistic,
ill-conceived responses that are destructive to U.S. futures markets and
those who legitimately rely on those markets.

**V. [Speculation is essential to efficient, liquid markets. Congress
should do everything in its power to avoid responses that threaten the
vitality of futures markets. ]{.underline}**

Current fuel and food prices are shocking and painful to consumers and
the economy. Unfortunately, the pressure to reverse rising prices has
led some to look for a simple, causal agent that can be neutralized with
the stroke of a pen. The favored culprit is the traditional villain --
speculators. But speculators sell when they think prices are too high
and buy when they think prices are too low. They are not a unified
voting block and are on both sides of every market. Speculative selling
and buying send signals to producers and processors that help keep our
economy on an even keel. High futures prices for corn induce farmers to
bring new acreage to market. High forward energy prices encourage
exploration and new technology to capture existing untapped reserves and
foster conservation and other behavioral changes to adjust demand.

Futures markets perform two essential functions -- they create a venue
for price discovery and they permit low-cost hedging of risk. Futures
markets depend on short- and long-term speculators to make markets and
provide liquidity for hedgers. Futures markets could not operate
effectively without speculators, and speculators will not use futures
markets if artificial barriers or tolls impede their access. Most
important, blaming speculators for high prices diverts attention from
the real causes of rising prices and does not contribute to a solution.

The weight of the evidence and informed opinion confirms that the high
prices are a consequence of normal supply and demand factors. The *Wall
Street Journal* surveyed a significant cross-section of economists who
agreed that: "The global surge in food and energy prices is being driven
primarily by fundamental market conditions, rather than an investment
bubble . . . ."[^4]

The traditional production/consumption cycle that has governed prices in
commodity markets is stressed by the confluence of a number of factors.
David Hightower, author of *The Hightower Report*, summed up the
supply/demand situation in corn last year as follows: "We have
experienced three consecutive years of record corn production...and
three consecutive years of declining ending reserves. Supply has put its
best team on the field and demand keeps winning."

The headlines that are grabbing the greatest attention these days derive
from the cost of energy commodities primarily traded elsewhere than CME
Group's markets. Nevertheless, a review of our experience in the
agricultural future markets that we do operate illustrates the
predominant roles that non-speculative forces, and particularly the
fundamentals of supply and demand, play in the economic challenges
Americans face today. Based on our expertise in agricultural markets, we
have identified five significant factors that are influencing the supply
and demand for grains and oilseeds:

1\. Weather/disease/pestilence.

2\. Increasing per capita consumption in the emerging markets.

> 3\. The dramatic impact of the demand for grain and oil seeds as feed
> stock for biofuel.

4\. Reactionary governmental trade policies.

5\. Financial Market turmoil, including a weakened dollar.

These factors combine to create volatile markets and increased prices.

1\. [Weather/Disease/Pestilence]{.underline}: This is of course a
traditional factor in the grain markets. Wheat recently attained
all-time record prices, coincident with 60-year lows in world
stockpiles. In the past two years there have been production shortfalls
in Australia, Argentina, Europe, North America, and the Ukraine due to a
combination of drought in some places, untimely rains in others, and
even infestation by the Eurygaster beetle.

2\. [Per Capita Consumption in Emerging Markets]{.underline}: Despite
that some projections imply a slowing population growth during this
century, global population is still growing, and from an ever increasing
base. In the short-run, GNP and personal income levels in the large,
emerging-market countries such as India, China, Russia and Brazil are
creating unprecedented per capita demand growth for animal protein.
Commonly in human history, as a society grows richer, its diet expands
to include additional animal protein in the form of meat and dairy.
According to a report on *Bloomberg.com*, worldwide meat consumption is
forecast to increase by more than half by 2020. Most of the new demand
will come from China. The implications for grain demand will be
staggering. Already in just the past 12 years, China has gone from a net
exporter of soybeans to the world's largest importer of soybeans, with
soybean imports exceeding 30 million tons in 2007. Never before in
history have we witnessed the impact of 2 billion people asking for a
higher standard of living at the same time.

3\. [Growth in Biofuels]{.underline}: The mandate to produce biofuels
created additional market stress. The expectation is for continued
growth in biofuel use/demand; politics rather than logic is at work --
resulting in continued demand growth for feed grains and vegetable oils.
To illustrate this point, the 2005 energy bill in the United States
spurred the rush to plant approximately 93 million acres of corn in
2007, the highest level since World War II. The USDA recently reported
that corn-based ethanol production will continue to rise, placing
additional demands on the crop: "driven by continued expansion in
ethanol production capacity, corn use for ethanol is projected at 4.1
billion bushels 2008-9, up 28 percent from the current year projection.
Ethanol corn will now account for 31 percent of total corn use, up from
a projected 25 percent for 2007-8." The amount of corn used in ethanol
production just five years ago was approximately 10 percent. In addition
to the U.S. initiative, the EU enacted legislation that will require
significantly increased use of biofuel fuel by 2010. The problem is that
there simply is not enough land to set aside in the entire EU to meet
these ambitious requirements. They will need to import significantly
higher levels of either finished product or higher levels of oilseeds in
order to produce the needed biofuel.

4\. [Reactionary Government Trade Policies]{.underline}: During the last
three months, there has been an ever expanding pattern of increasing
export tariffs and decreasing import tariffs on grains and oilseeds by
foreign governments. Russia extended a grain export tariff from April 30
to July 1. In addition, Russia has placed an export ban upon its grain
to the four CIS (Commonwealth of Independent States) members designed to
prevent re-export of Russian grain to third countries. Argentina
extended its wheat export closure through April 8, and announced a new,
higher soy export tax that will rise by 7-9 percentage points based upon
current prices. India increased its grain export tariffs while lowering
import tariffs on edible oils. China has announced a further increase in
edible oil imports in 2007-8 with projections currently up an additional
14 percent. South Korea announced the emergency lifting of import
tariffs on 70 price-sensitive products, including wheat and corn in an
effort to confront rising inflation. The pattern we are witnessing is
one of keeping domestic production off the global market while lowering
barriers for the acquisition of grains and oils from the global market.
This trend results in increased demand for U.S. grain and oil seed
products.

5\. [Financial Market Turmoil]{.underline}: The events that began in the
sub-prime sector of the financial markets are now spreading out with
very serious and negative consequences throughout the nation's banking
sector. Restrictive lending policies are having deleterious effects
within our market place. High volatility leads to higher margins, large
directional price moves require significant continuing variation
deposits, and all of this comes at a time when money is difficult to
obtain.

The non-speculative factors summarized above all have a material impact
on supply and demand in energy and agricultural commodity markets. Given
these factors, it would be wise for Congress to examine rigorously any
assertions that speculation is driving up prices in food or energy
markets -- before enacting any legislation in response. Policies that
are based on factually invalid assumptions of speculation's role could
be disastrous and impose additional, perhaps even greater, economic
dislocation than the current impact of high food and energy prices
themselves.

**VI. [Participation in commodity markets by index funds]{.underline},
[hedge funds and pension funds ]{.underline}**

We strongly oppose any effort to eliminate index funds from
participating in the commodities markets. Index funds may rely on
no-action risk-management exemptions to exceed position limits or they
may enter into OTC transactions with a swaps dealer to gain exposure to
commodities by benchmarking their OTC transaction to a broad-based
commodity index. For index funds that obtain market access through a
swaps dealer, the swaps dealer is often granted a hedge exemption as
described above. For index funds that agree to track an index (as
opposed to holding a swaps position directly linked to the price of an
index), CFTC has determined that these index-based positions differ
enough that a hedge exemption is not appropriate. Instead, the fund is
granted no-action relief from speculative position limits for this
otherwise legitimate investment strategy (subject to conditions to
protect the markets).

Others have suggested excluding pension funds and index funds from
participating in commodity futures markets. These funds are using
commodity exposure to decrease volatility in their portfolios. Barring
them from regulated U.S. futures markets will only push them offshore or
into over-the-counter trading. These funds will continue to need
commodities as an asset class and will need to find ways to invest on
behalf of their clients. Certainly a number of foreign commodity futures
exchanges offer comparable and liquid ag product alternatives in
particular and could easily become the benchmark in these commodities
should unreasonable barriers be placed on the U.S. markets. We believe
it would be prudent public policy to ensure this investment occurs on a
domestic regulated market instead of driving this capital overseas or
into opaque markets.

CME Group has conducted a thorough review of the impact of index trading
and speculative trading on its primary agricultural markets. We have
found a negative correlation between price increases and index fund
buying.

While we favor a broader study of the impact of index fund trading, we
do not think it is appropriate to cast those funds as a villain in price
inflation until the study is completed, especially since in theory it is
not likely that the index funds are having a detrimental impact. Index
funds buy and hold. They may have some small impact on days when new
money enters the market and they create additional net long positions,
but those changes are transitory. The important statistic in this regard
is [new net positions]{.underline}, not overall positions.

After the flow of new money into the market from the index funds, the
price will, in the absence of other factors, revert to the equilibrium
dictated by current supply and demand factors because the index traders
simply sit and hold the positions until they roll to the next delivery
month. Traders making informed trades should be expected to drive the
market to equilibrium.

All price changes take place at the margin as those traders with
information, meaning that they are hedging or expressing an opinion
based on knowledge, buy and sell. Even if 20 percent of the open
interest in a particular contract month of a commodity is held by index
funds, buying and selling by a few traders based on need and knowledge
drive the market to its fair equilibrium price. The open positions of
the index traders have no impact on prices driven by informed trading
activity.

Beyond being subjected to the criticisms leveled at speculators in
general, there have been more specific suggestions that money managers
and hedge funds that operate under defined strategies may have impaired
the price discovery process. The CFTC's staff responded to questions
implying that managed money traders, particularly hedge funds, "may
exert undue collective influence on markets and thus move prices in ways
that hinder the market's price discovery role, reduce the effectiveness
of hedges constructed with contracts from those markets and raise
trading costs." CFTC's professional staff conducted an analysis in 2005
which came to the following conclusions[^5]:

> Using a unique set of data from the Commodity Futures Trading
> Commission (CFTC), the staff studied the relationship between futures
> prices and the positions of managed money traders (MMTs), commonly
> known as hedge funds, for the natural gas and crude oil futures
> markets. The staff also examined the relationship between the
> positions of MMTs and positions of other categories of traders (e.g.,
> floor traders, merchants, manufacturers, commercial banks, dealers)
> for the same markets.
>
> The results suggest that on average, MMT participants do not change
> their positions as frequently as other participants, primarily those
> who are hedgers. The staff found that there is a significant
> correlation (negative) between MMT positions and other participant's
> positions (including the largest hedgers), and results suggest that it
> is the MMT traders who are providing liquidity to the large hedgers
> and not the other way around.
>
> The staff also found that most of the MMT position changes in the very
> short run are triggered by hedging participants changing their
> positions. That is, the price changes that prompt large hedgers to
> alter their positions in the very short run eventually ripple through
> to MMT participants who will change their positions in response. The
> staff also found no evidence of a link between price changes and MMT
> positions (conditional on other participants trading) in the natural
> gas market, and find a significantly negative relationship between MMT
> position changes and price changes (conditional on other participants
> trading) in the crude oil market.

In recent congressional testimony, the CFTC has reaffirmed the validity
of this 2005 analysis.[^6] It is instructive that CFTC's analysis
parallels the conclusions of many other economists who have also studied
the issue of causation in the context of speculators and commodity
futures prices.[^7]

Regulated futures markets and the CFTC have the means and the will to
limit speculation that might distort prices or distort the movement of
commodities in interstate commerce. Acting Chairman Lukken's recent
testimony before the Subcommittee on Oversight and Investigations of the
Committee on Energy and Commerce United States House of Representatives
(December 12, 2007)[^8] offers a clear description of these powers and
how they are used:

> CEA Section 5(d)(5) requires that an exchange, "\[t\]o reduce the
> potential threat of market manipulation or congestion, especially
> during trading in the delivery month . . . shall adopt position
> limitations or position accountability for speculators, where
> necessary and appropriate."
>
> All agricultural and natural resource futures and options contracts
> are subject to either Commission or exchange spot month speculative
> position limits -- and many financial futures and options are as well.
> With respect to such exchange spot month speculative position limits,
> the Commission's guidance specifies that DCMs should adopt a spot
> month limit of no more than one-fourth of the estimated spot month
> deliverable supply, calculated separately for each contract month. For
> cash settled contracts, the spot month limit should be no greater than
> necessary to minimize the potential for manipulation or distortion of
> the contract's or underlying commodity's price. For the primary
> agricultural contracts (corn, wheat, oats, soybeans, soybean meal, and
> soybean oil), speculative limits are established in the Commodity
> Exchange Act and changes must be approved via a petition and public
> rulemaking process.
>
> With respect to trading outside the spot month, the Commission
> typically does not require speculative position limits. Under the
> Commission's guidance, an exchange may replace position limits with
> position accountability for contracts on financial instruments,
> intangible commodities, or certain tangible commodities. If a market
> has accountability rules, a trader -- whether speculating or hedging
> -- is not subject to a specific limit. Once a trader reaches a preset
> accountability level, however, the trader must provide information
> about his position upon request by the exchange. In addition, position
> accountability rules provide an exchange with authority to restrict a
> trader from increasing his or her position.
>
> Finally, in order to achieve the purposes of the speculative position
> limits, the Commission and the DCMs treat multiple positions held on a
> DCM's market that are subject to common ownership or control as if
> they were held by a single trader. Accounts are considered to be under
> common ownership if there is a 10 percent or greater financial
> interest. The rules are applied in a manner calculated to aggregate
> related accounts.
>
> Violations of exchange-set or Commission-set limits are subject to
> disciplinary action, and the Commission, or a DCM, may institute
> enforcement action against violations of exchange speculative limit
> rules that have been approved by the Commission. To this end, the
> Commission approves all position limit rules, including those for
> contracts that have been self-certified by a DCM.
>
> It is clear that speculation is an important component of the futures
> markets, but there is a point when excessive speculation can be
> damaging to the markets. As a result, the CFTC closely monitors the
> markets and the large players in the markets, in addition to position
> and accountability limits, to detect potentially damaging excessive
> speculation and potential manipulative behavior.

On June 26, 2008, the House passed overwhelmingly HR 6377, directing the
CFTC to utilize fully its authority, including its emergency powers, to
investigate the potential role of excessive speculation in any CFTC
regulated market. The CFTC was also directed to take appropriate action
to curb any excessive speculation that may be found to exist that
results in prices diverging from those reflecting the forces of supply
and demand. In our view, HR 6377 is an understandable and appropriate
response given the circumstances facing the markets. The bill respects
the need to have dispassionate expert analysis of this highly technical
matter *before* action is taken. Congress is not well-equipped to make
these technical assessments and the public interest will be advanced and
better protected by CFTC's careful and meticulous analysis. Moreover,
our sense is that the CFTC well understands the urgency that underlined
passage of HR 6377. We are confident that the CFTC is the right agency
with the expertise to analyze the relevant derivatives markets in an
expeditious and thoughtful manner and to take appropriate action
commensurate with what the facts may dictate.

**VII. [The CFTC's exclusive jurisdiction over trading on CFTC
regulated]{.underline} [markets must be preserved. ]{.underline}**

CME Group recently joined with other leading participants in the
financial services industry to respond to the Federal Trade Commission's
(FTC) request for comments regarding its proposed rule respecting false
reporting and manipulative activities in the wholesale oil market. We
are concerned that the FTC's jurisdictional reach could come into
conflict with the CFTC's exclusive jurisdiction respecting futures
trading. While the statute very clearly limits the FTC's jurisdiction to
conduct in connection with "the purchase or sale of crude oil, gasoline
or petroleum distillates *at wholesale*," the Federal Energy Regulatory
Commission (FERC), which has similar authority, has read "in connection
with" to give it authority over conduct that took place entirely on a
futures exchange. This latest opportunity for incursion into CFTC's
exclusive jurisdiction should be of high concern to the Agriculture
Committee.

In 1974, Congress recognized the overriding importance of entrusting to
the expertise of the CFTC the exclusive regulatory authority over the
nation's futures markets. Congress preempted other federal and state
rules that would either assert parallel jurisdiction over the futures
markets or produce conflicts with the CFTC regulatory regime. This
system has produced the best regulated, most innovative and efficient
futures market in the world.

As markets evolve and become more interrelated, such agency "boundary
disputes" can be expected and, for the most part, the agencies usually
take pains to accommodate one another and allow each to accomplish the
mission Congress mandated for it. We are concerned by the FERC's claim
of jurisdiction in the Amaranth case, where the alleged manipulative
trading took place on a futures exchange. FERC has refused to recognize
and yield to the CFTC's exclusive jurisdiction. The result is that
participants in the natural gas futures markets no longer have legal
certainty as to the legal standard governing their transactions.

By the same token, we have been concerned by recent calls to have other
federal agencies -- the Department of Energy and the FTC in particular
-- take leading roles in investigating commodity markets that fall
primarily within the exclusive jurisdiction of the CFTC. We strongly
urge the Agriculture Committee to take special care in articulating the
public policy wisdom of the exclusive jurisdiction bestowed long ago on
the CFTC and the invaluable contribution that the CFTC's expertise can
play in sifting fact from fiction amid the turbulence of the current
market situation.

The recently enacted Farm Bill demonstrates the continued vitality of
the CFTC's exclusive jurisdiction. Congress reauthorized the CFTC for
another five years and granted the CFTC new authority to regulate
certain exempt commercial markets that are active enough to constitute
price discovery markets.

**VIII. [Congress should increase the CFTC's resources]{.underline}.**

The spate of recent congressional hearings has established that the CFTC
is working at staffing and resource levels that could inhibit attainment
of the agency's Congressionally mandated statutory mission. Given that
the CFTC is now expected to be even more aggressive in its oversight and
enforcement, Congress should provide CFTC with additional funding to
hire more personnel, acquire more technology, and do everything
necessary to police the derivatives markets effectively. The enormous
value that accrues to the public from effective CFTC activity warrants
the investment of additional financial resources from general revenues.

**[Conclusion]{.underline}**

CFTC regulated futures markets have demonstrated their importance to the
economy, the nation's competitive strength, and America's international
financial leadership. Imposing arbitrary increases in margins in these
markets, as has been suggested as a way to control prices, will result
in the exportation of these markets to overseas competitors and to
unregulated and non-transparent over-the-counter markets. We have the
means and the power to protect markets against speculative excesses on
our markets and are committed to doing so.

[^1]: Attached to our testimony are four noteworthy pieces published in
    recent days. (1) "Oil Speculation." *Financial Times.* Retrieved
    July 3, 2008 from [www.FT.com](http://www.FT.com/). (2) "For Love of
    Speculators." *Chicago* *Tribune*. Retrieved July 2, 2008 from
    www.chicagotribune.com. (3) Nocera, Joe. (June 28, 2008) "Easy
    Target, but Not the Right One." *New York Times*. (4) Samuelson,
    Robert J. (July 1, 2008) "Who's Behind High Prices." *Washington
    Post*, A11.

[^2]: We have attached hereto an article titled "SPAN: The First 20
    Years" that succinctly describes CME's Standard Portfolio Analysis
    risk methodology for determining margin based on actual volatility
    risk, which revolutionized the management of futures and options
    risk world-wide and is the industry standard around the world today.
    *Futures Industry Magazine*, pages 32-35 (March/April 2008).

[^3]: Sanders, D.R., S.H. Irwin, and R.P. Merrin. "The Adequacy of
    Speculation in Agricultural Futures Markets: Too Much of a Good
    Thing?\" Marketing and Outlook Research Report 2008-02, Department
    of Agricultural and Consumer Economics, University of Illinois at
    Urbana-Champaign, June 2008.
    \[[[http://www.farmdoc.uiuc.edu/marketing/reports]{.underline}](http://www.farmdoc.uiuc.edu/marketing/reports)\]

[^4]: "Bubble Isn\'t Big Factor in Inflation," By Phil Izzo (May 9,
    2008; Page A2)

[^5]: http://www.cftc.gov/opa/press05/opa5074-05.htm

[^6]: During his appearance before the Senate Appropriations Committee
    on May 7, 2008, CFTC Acting Chairman Walt Lukken stated that the
    CFTC's recent revisitation of the 2005 study using more current data
    for energy market trading affirmed the conclusions reached in the
    2005 study. This conclusion mirrors the views of the majority of 53
    economists surveyed by the *Wall Street Journal* in May 2008 which
    indicated that the global surge in food and energy prices is being
    driven primarily by fundamental market conditions, rather than an
    investment bubble. Wall Street Journal, May 9, 2008, page A-2.
    Similarly, the U.S. Department of Energy's Energy Information
    Agency's most recent "Short Term Energy Outlook" published May 6,
    2008, evidenced the tightness in world oil markets, with growth in
    world oil consumption outstripping growth in production in non-OPEC
    nations by over 1 million bbls/day, and dramatically increased
    demand coming from China, India and other parts of the developing
    world.

[^7]: See, for example, Antoshin and Samiei's analysis of the IMF
    research on the direction of the "causal arrow" between speculation
    and commodity prices in "Has Speculation Contributed to Higher
    Commodity Prices?" in World Economic Outlook (September 2006):

    > On the other hand, the simultaneous increase in prices and in
    > investor interest, especially by speculators and index traders, in
    > commodity futures markets in recent years can potentially magnify
    > the impact of supply-demand imbalances on prices. Some have argued
    > that high investor activity has increased price volatility and
    > pushed prices above levels justified by fundamentals, thus
    > increasing the potential for instability in the commodity and
    > energy markets.
    >
    > What does the empirical evidence suggest? A formal assessment is
    > hampered by data and methodological problems, including the
    > difficulty of identifying speculative and hedging-related trades.
    > Despite such problems, however, a number of recent studies seem to
    > suggest that speculation has not systematically contributed to
    > higher commodity prices or increased price volatility. For
    > example, recent IMF staff analysis (September 2006 World Economic
    > Outlook, Box 5.1) shows that speculative activity tends to respond
    > to price movements (rather than the other way around), suggesting
    > that the causality runs from prices to changes in speculative
    > positions. In addition, the Commodity Futures trading Commission
    > has argued that speculation may have reduced price volatility by
    > increasing market liquidity, which allowed market participants to
    > adjust their portfolios, thereby encouraging entry by new
    > participants.

    Similarly, James Burkhard, managing director of Cambridge Energy
    Research Associates testified to the Senate Energy Committee on
    April 3, 2008 that: "In a sufficiently liquid market, the number and
    value of trades is too large for speculators to unilaterally create
    and sustain a price trend, either up or down. The growing role of
    non-commercial investors can accentuate a given price trend, but the
    primary reasons for rising oil prices in recent years are rooted in
    the fundamentals of demand and supply, geopolitical risks, and
    rising industry costs. The decline in the value of the dollar has
    also played a role, particularly since the credit crisis first
    erupted last summer, when energy and other commodities became caught
    up in the upheaval in the global economy. To be sure, the balance
    between oil demand and supply is integral to oil price formation and
    will remain so. But 'new fundamentals'- new cost structures and
    global financial dynamics - are behind the momentum that pushed oil
    prices to record highs around \$110 a barrel, ahead of the previous
    inflation-adjusted high of \$103.59 set in April 1980."

[^8]: http://www.cftc.gov/stellent/groups/public/@newsroom/documents/speechandtestimony/opalukken-32.pdf