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REVIEW OF THE FUTURES MARKET

AND GASOLINE PRICES

HEARING

BEFORE THE

COMMITTEE ON AGRICULTURE

HOUSE OF REPRESENTATIVES

ONE HUNDRED NINTH CONGRESS

SECOND SESSION

APRIL 27, 2006

Serial No. 109–30

(

Printed for the use of the Committee on Agriculture

www.agriculture.house.gov
COMMITTEE ON AGRICULTURE

BOB GOODLATTE, Virginia, Chairman

RICHARD W. POMBO, California

Vice Chairman

TERRY EVERETT, Alabama

FRANK D. LUCAS, Oklahoma

JERRY MORAN, Kansas

WILLIAM L. JENKINS, Tennessee

GIL GUTKNECHT, Minnesota

ROBIN HAYES, North Carolina

TIMOTHY V. JOHNSON, Illinois

TOM OSBORNE, Nebraska

MIKE PENCE, Indiana

SAM GRAVES, Missouri

JO BONNER, Alabama

MIKE ROGERS, Alabama

STEVE KING, Iowa

MARILYN N. MUSGRAVE, Colorado

RANDY NEUGEBAUER, Texas

CHARLES W. BOUSTANY, JR., Louisiana

JOHN J.H. ‘‘JOE’’ SCHWARZ, Michigan

JOHN R. ‘‘RANDY’’ KUHL, JR., New York

VIRGINIA FOXX, North Carolina

K. MICHAEL CONAWAY, Texas

JEFF FORTENBERRY, Nebraska

JEAN SCHMIDT, Ohio

MICHAEL E. SODREL, Indiana

COLLIN C. PETERSON, Minnesota,

Ranking Minority Member

TIM HOLDEN, Pennsylvania

MIKE MCINTYRE, North Carolina

BOB ETHERIDGE, North Carolina

JOE BACA, California

ED CASE, Hawaii

DENNIS A. CARDOZA, California

DAVID SCOTT, Georgia

JIM MARSHALL, Georgia

STEPHANIE HERSETH, South Dakota

G.K. BUTTERFIELD, North Carolina

HENRY CUELLAR, Texas

CHARLIE MELANCON, Louisiana

JIM COSTA, California

JOHN T. SALAZAR, Colorado

JOHN BARROW, Georgia

EARL POMEROY, North Dakota

LEONARD L. BOSWELL, Iowa

RICK LARSEN, Washington

LINCOLN DAVIS, Tennessee

BEN CHANDLER, Kentucky

PROFESSIONAL STAFF

WILLIAM E. O’CONNER, JR., Staff Director

KEVIN J. KRAMP, Chief Counsel

JOHN HAUGEN, Communications Director

ROBERT L. LAREW, Minority Staff Director

(II)
(III)

C O N T E N T S

Page

Goodlatte, Hon. Bob, a Representative in Congress from the Commonwealth

of Virginia, opening statement ............................................................................ 1

Graves, Hon. Sam, a Representative in Congress from the State of Missouri,

prepared statement .............................................................................................. 4

Peterson, Hon. Collin C., a Representative in Congress from the State of

Minnesota, opening statement ............................................................................ 3

Sodrel, Hon. Michael E., a Representative in Congress from the State of

Inidiana, prepared statement .............................................................................. 5

WITNESSES

Lukken, Walter L., Commissioner, Commodity Futures Trading Commission .. 6

Prepared statement .......................................................................................... 46

Newsome, James E., president and chief executive officer, New York Mercantile Exchange, New York, NY ........................................................................ 8

Prepared statement .......................................................................................... 63
(1)

REVIEW OF THE FUTURES MARKET AND

GASOLINE PRICES

THURSDAY, APRIL 27, 2006

HOUSE OF REPRESENTATIVES, COMMITTEE ON AGRICULTURE, Washington, DC.

The committee met, pursuant to call, at 10:00 a.m., in room

1300, Longworth House Office Building, Hon. Bob Goodlatte (chairman of the committee) presiding.

Present: Representatives Lucas, Moran, Gutknecht, Johnson,

Osborne, Graves, Rogers, Neugebauer, Boustany, Schwarz, Kuhl,

Conaway, Fortenberry, Schmidt, Peterson, Holden, Etheridge,

Baca, Case, Cardoza, Scott, Marshall, Herseth, Butterfield, Cuellar,

Melancon, Costa, Salazar, Barrow, Pomeroy, Boswell, Larsen,

Davis and Chandler.

Staff present: William E. O’Conner, Jr., staff director; Ben Anderson, Bryan Dierlam, Craig Jagger, Kevin Kramp, Josh Maxwell,

Tyler Wegmeyer, Callista Gingrich, clerk; Lindsey Correa, Rob

Larew, Clark Ogilvie, and John Riley.

OPENING STATEMENT OF HON. BOB GOODLATTE, A REPRESENTATIVE IN CONGRESS FROM THE COMMONWEALTH

OF VIRGINIA

The CHAIRMAN. Good morning. This hearing of the House Committee on Agriculture to review the futures market and gasoline

prices will come to order.

Before I give my opening statement, I would like to announce to

all the members that all opening statements will be made a part

of the record and only the statement of the chairman and the ranking member will be given orally. Everybody will have an opportunity to voice their views and ask questions of these witnesses.

Let me begin by welcoming the distinguished witnesses who have

agreed to appear before our committee to offer their insight and

comments the futures markets and gasoline prices. Thank you for

your willingness to participate in today’s hearing.

The airwaves and print media are awash in stories about increased gasoline prices. In fact, I think it is safe to say that this

is one of the primary topics of conversation in the Nation’s coffee

shops and places of business. People are concerned, and rightly so,

about the growing cost and availability of a commodity that is so

essential to the American way of life. This, of course, extends to

rural America, where long car trips are a part of the daily routine

and farmers and ranchers rely on large amounts of gasoline and

diesel fuel to run their equipment. Higher import costs do place a
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significant burden on our producers, and I want to ensure that no

one is bearing the burden unwarrantedly.

There are a number of factors contributing to the high price of

gasoline. Therefore, it is virtually impossible to point the blame at

any one factor, but it is important to recognize some of the primary

causes.

The increased energy consumption of the burgeoning economies

of countries such as China and India has increased global competition for the shrinking supplies of oil. Simple economics dictates

that an increase in demand without a change in supply leads to

higher prices.

Then there are geopolitical considerations such as the instability

in Nigeria, currently the fifth biggest source of oil for the U.S., the

overall instability in the Middle East and threat of an increasingly

militant Iran.

In the wake of Hurricane Katrina, many U.S. refineries are still

operating below pre-storm levels. Overall, increased refining capacity has failed to keep up with demand for a product.

While several of these factors are well beyond our immediate

control, we must also look at the factors that we do have control

of, our own energy policy. While there are consequences for every

action, there are also consequences for inaction.

Over the years, Congress has considered multiple legislative

packages aimed at increasing domestic production and streamlining regulations. After many years of delay, a comprehensive energy

package encouraging an increased production of many conventional

and new sources of energy was passed by Congress. This energy

package included a bipartisan contribution from this committee

supporting increased production of energy from our Nation’s renewable agricultural resources. However, that delay is palpable today

as the needed increases in energy sources have not kept up with

demand.

Other practical, feasible plans have not garnered the bipartisan

support to needed to create a sound domestic energy plan. Many

proposals aimed at increasing domestic energy production have

been consistently stymied by environmental extremists and their

friends in Congress. The opportunities have been there, but we

have not been able to capitalize on them due to this lack of support.

For example, the Arctic National Wildlife Refuge holds the Nation’s single largest deposit of untapped oil and if explored could

increase U.S. reserves by 50 percent. However, despite repeated attempts, ANWR remains untapped; and we are forced to continue

our reliance to foreign oil.

Despite the growth of energy technology and innovation, we are

no closer to a reliable domestic energy source than we were 20

years ago. We are now realizing the severe consequences of inaction: an insatiable dependence on unstable foreign oil sources and

insufficient progress on reliable, sustainable domestic energy.

Reports indicate that this problem is far from being over, and I

am sure it will continue to generate much discussion throughout

the Nation as well as the halls of Congress. Regardless of perspective, I am hopeful there will be a healthy and bipartisan debate on

what we as a Nation can do to limit our dependence on unstable
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foreign sources of energy, while increasing our options at home. It

goes without saying that energy is critical to fueling our industries,

heating our homes and facilitating travel and commerce in this

great land.

Today, we will look into the role of the futures market and what

it does in determining gasoline prices. As the committee has oversight responsibility over the futures market, I want to ensure that

activity on the futures market is not allowed in any way to unduly

influence the high price of gasoline. There have been many theories

generated about the causes of our current energy dilemma, including the impact of the futures market and speculators on the gasoline market. The goal of today’s hearing is to determine if there is

indeed reason to believe there are problems in the futures market,

what type of surveillance is being conducted to prevent and detect

manipulation and if the regulators are equipped with the appropriate authority and enforcement mechanisms they need.

I would like to note that this committee passed bipartisan legislation last year directing the Commodity Futures Trading Commission to find and stop manipulation in natural gas pricing and increase transparency through the surveillance of natural gas trading. The reauthorization also included several other provisions that

clarified and/or strengthened the CFTC’s overall regulatory authority. The House passed H.R. 4473, the Commodities Futures Trading Commission Reauthorization Act of 2005, in December.

There has been considerable debate and conjecture about the role

of the futures market with regard to the current prices we are paying for oil and gas, and I look forward to any light today’s witnesses can shed on this timely subject.

It is now my pleasure to recognize the ranking minority member

of this committee, the gentleman from Minnesota, Mr. Peterson.

OPENING STATEMENT OF HON. COLLIN C. PETERSON, A REPRESENTATIVE IN CONGRESS FROM THE STATE OF MINNESOTA

Mr. PETERSON. Thank you, Mr. Chairman; and thank you for

calling this hearing.

We are holding this hearing today because retail gasoline prices,

as you said, are out of control. While our hearing is meant to focus

on whether or not our futures markets are working properly, neither of our witnesses will suggest that the futures regulatory system is a problem at this time; and that is a good thing. We will

work with you, Mr. Chairman, on continuing oversight of our Nation’s derivative markets.

The real problem is that rising record-level gas prices are sucking the disposable income out of family’s pocketbooks and

compounding the hardships of needy Americans and threatening to

put our farms and small businesses out of business.

With a lot of folks, you can make some adjustments. Some of the

industries are able to compensate for this by adding surcharges,

like the trucking industry and so forth, but in agriculture you really have no place to pass this additional cost to. And it is not just

the gasoline and diesel fuel, it is fertilizer that is impacted by these

prices. I am getting calls every day from farmers wanting to know

what they are going to do because they have all these extra costs,
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and there is in way for them to get compensated out of the marketplace. So I would suggest that farmers are probably impacted more

by these prices than anybody else and have less ability to deal with

it.

Now, with every problem comes an opportunity, usually; and the

one thing that is a positive thing out of all of this is that these high

prices are finally causing the alternative fuel situation to really

take off. The only farmers that are really dealing with this problem

with are the ones that bought equity in ethanol plants, because

they are making enough money to offset the extra costs they are

incurring on the other side and probably making more money than

it is costing them on the other side of things.

That is an area that we can have some influence on in this committee; I am hoping as we move ahead, looking into the farm bill,

that we will really examine the way that we can keep farmers engaged in the equity ownership and control of this new industry that

is developing.

Out there in Minnesota, we have been a leader, we have had a

mandate, our plants are owned by farmers, and that is a good

thing.

But I just talked to one of the biggest ethanol plant builders in

the country Thursday, and out of the new plants that are being

considered in the U.S. right now, over 50 percent of those are being

financed by private money coming from outside of the rural area;

and I would suggest that is not in the best interests of rural America. We need to do whatever we can to try to make sure that those

equity ownerships are available to our rural residents and our producers.

Mr. Chairman, while I appreciate your responsiveness to the

House leadership in holding this hearing, at the end of the day I

think the record is going to show that, while we have a big problem

in this country, the solution probably doesn’t have much to do with

what is going on in regulation of the futures market. At least that

is what our witnesses are telling us.

But I think that our Nation’s farmers, as I said, are centerpiece

to solving the long-term critical energy problem; and our committee

should and I think will have an important role to play in addressing our Nation’s long-term problems in this area.

So I am grateful today for the testimony of our witnesses, and

I especially look forward to the day when we can get to work and

get to the point where they are in Brazil where 60 percent of their

gasoline is produced by farmers. I look forward to the day when the

2 billion bushels of corn that we are now exporting at a loss can

be turned into ethanol and help reduce the prices of fuel for Americans.

The CHAIRMAN. I thank the gentleman for his comments, which

are well taken. Any statements for the record will now be accepted.

[The prepared statements of Messrs. Graves and Sodrel follow:]

PREPARED STATEMENT OF HON. SAM GRAVES, A REPRESENTATIVE IN CONGRESS FROM

THE STATE OF MISSOURI

Thank you Mr. Chairman for giving me this opportunity to address the gas crisis

we are currently experiencing. This is a very important issue to me, my constituents, and this country, and I appreciate the time to look into this matter.
5

Many factors affect the price of gasoline. Supply and demand, weather, international affairs and stability, speculation, taxes, environmental regulations, transportation, refining capacity; the list goes on and on. All these factors are contributing to the high price of gas at this time, and we must do what we can to address

them. However, some of these factors are more controllable than others.

It gets my blood boiling when I hear that speculation raises the price of gasoline.

Speculation! What is that? Someone hears on the news that there are tensions between Iran and the United States so the price of gas goes up? That’s not right,

that’s not a factor in supply and demand. I think it’s greedy traders trying to make

a buck at the expense of you and me, the consumer.

Some of these other issues, like the weather, are uncontrollable factors; however,

speculation is something we can crack down on with increased oversight on the markets. These traders and speculators are artificially driving the price of gas up purely

to make a profit off the consumer and that is wrong!

I look forward to hearing from the panel today, and what they plan to do to keep

a closer eye on these speculative traders and ensure the consumers that they are

paying for the true cost of gasoline and not for some trader’s new Mercedes.

PREPARED STATEMENT OF HON. MICHAEL E. SODREL, A REPRESENTATIVE IN

CONGRESS FROM THE STATE OF INDIANA

Thank you, Mr. Chairman for holding this timely hearing to examine an important issue in the debate on fuel prices.

There is no doubt the rise in gasoline prices are hurting America’s families, businesses and farmers. High prices for energy can reduce profit margins and increase

the cost of operations. No one understands that better than I do. I spent my career

in the transportation business. The current round of price hikes in both diesel and

gasoline have negatively impacted our family budgets; small business budgets; and

rippled through our entire economy.

Supply and demand are at a point where every drop will make a difference in stabilizing prices. The President has taken some action to address the price increases

being experienced at the pump. The suspension of purchases of the oil to fill the

strategic petroleum reserve and relaxation of clean fuel requirements will help in

very modest ways. But these are only stop-gap measures.

The demand will continue to increase as our economy continues to grow. Therefore, the United States needs to find more supply from domestic sources. I voted for

the energy bill last year but must tell my colleagues on this committee I was upset

it did not include provisions to allow oil and gas exploration in ANWR.

Ethanol, biodiesel and other renewable energy sources all have the potential to

contribute to the solution to our problem. I am happy to say I currently use biodiesel

in my personal vehicle back home in southern Indiana. Since I started using it, my

vehicle runs quieter, performs better, the exhaust is cleaner and it smells like

french fries.

But if we are going to use more renewable fuels we need to increase production.

The Energy Information Administration estimates the U.S. ethanol industry may

fall almost 130,000 barrels short this year in terms of meeting the demand set by

the renewable fuel standards. I look forward to hearing the NYMEX and CFTC

CEOs discuss how this potential shortfall will impact the supply of RBOB, how it

is affecting the marketplace and what we in Congress can do to address this issue.

There is no silver bullet to address rising gasoline prices. We cannot wave a magic

wand today and build more refineries, produce more oil and decrease demand tomorrow. But we can begin to set the stage for a more strategic energy policy based

on the lessons learned from the past. I think Congress should address issues like

increasing refinery efficiency and increase research to promote cellulosic ethanol

produced from agriculture waste, switch grass, biomass. and wood chips. Congress

should create new incentives for renewable fuel vehicles and retool the biodiesel tax

credit to make it more effective.

We should also open ANWR and the Outer Continental Shelf to oil and gas exploration to increase domestic supply. This is more than just an issue about energy policy but also an issue about national security. We can not continue our reliance on

energy from foreign countries.

Finally, we must pass legislation to reduce the proliferation of boutique fuels. The

fact we cannot sell the same type of fuel in southern Indiana as we do across the

Ohio River in Louisville, KY makes the least sense in terms of economic or environmental policy. I plan to work with my colleagues this year to resolve this

issue.Again, I want to thank you, Mr. Chairman for holding this hearing and I look

forward to hearing from our panel of witnesses.
6

The CHAIRMAN. I will introduce our panel of witnesses: the Honorable Walter Lukken, Commissioner of the Commodity Futures

Trading Commission of Washington, DC; and Dr. James Newsome,

president and chief executive officer of the New York Mercantile

Exchange of New York, New York.

Gentlemen, welcome to both of you.

Commissioner Lukken, we will begin with you.

STATEMENT OF WALTER L. LUKKEN, COMMISSIONER, COMMODITY FUTURES TRADING COMMISSION, WASHINGTON, DC

Mr. LUKKEN. Mr. Chairman, Congressman Peterson and members of the committee, I appreciate the opportunity to testify on behalf of the Commodity Futures Trading Commission concerning our

oversight of the energies futures and options markets.

The CFTC has been paying particularly close attention to futures

trading in energy commodities because of the importance of energy

prices and supplies to our Nation’s consumers, producers and its

economy in general. Based on our surveillance efforts to date, we

believe that crude oil and gasoline futures markets have been accurately reflecting the underlying fundamentals of these markets.

Futures markets play a significant risk management role in the

U.S. economy. They provide risk management tools to producers,

distributors and commercial users of commodities who use these

products to protect themselves from unpredictable price changes.

The futures market also play a price discovery role as participants

in related cash and over-the-counter markets look to futures markets to discover prices that accurately reflect information on supply, demand, and other factors. Both functions would be harmed by

the manipulation of our markets.

The CFTC’s primary mission under the Commodity Exchange

Act is to ensure that commodity and futures and options markets

operate in an open and competitive manner, free of price distortions. The CFTC fulfills this obligation through a comprehensive,

multi-faceted program that is designed to identify and mitigate the

potential for manipulation and other market abuses and to ferret

out and punish illegal behavior.

The CFTC’s market oversight begins with a review of the terms

and conditions of the contract to determine it is not readily susceptible to manipulation. Once listed, CFTC staff closely monitors on

a real-time basis trading on the exchanges to detect unusual activity or price aberrations that might indicate actual or attempted

manipulation.

The cornerstone of our market surveillance program is the Large

Trader Reporting System, which requires traders to file daily reports concerning their own and their customer’s positions in a particular contract. Through the Large Trader Reports, the CFTC becomes aware of concentrated and coordinated positions that might

be used by one or more traders to attempt manipulations.

In addition, each futures exchange is required under the CEA to

supervise trader practices, prices and positions and must impose

trade position limits, when appropriate, to guard against manipulation.

When the CFTC staff identifies a potentially problematic situation, the CFTC engages in an escalating series of communications
7

to work to resolve the situation. Typically, the CFTC staff coordinates activity with exchange regulatory staff. CFTC staff may contact the longest longs and shorts in the markets to obtain information on their delivery intentions and their capabilities to deliver

and their price objectives in liquidating trades.

The traders are advised of the CFTC’s concern regarding the orderly expiration of the futures contract and reminded that they are

expected to trade in a responsible manner. This regulatory oversight of the CFTC and its staff is usually quite effective in resolving most potential problems. Should more action be needed, however, the CFTC has broad authority to limit, liquidate or halt trading through its emergency authorities.

Fortunately, most issues are resolved without emergency action.

In fact, the CFTC has only taken emergency action four times in

its history. But this authority represents an important hammer in

our toolbox.

Should a violation of the Act occur, the CFTC aggressively pursues any individual that intentionally seeks to disrupt or undermine the integrity of our markets. The CFTC’s Division of Enforcement investigates and prosecutes individuals and entities for violations of our Act, including manipulation, false reporting, and trade

practice abuses.

Sanctions in prosecuted cases serve as a powerful deterrent for

would-be violators and send a clear message that improper conduct

will not be tolerated. These investigations may be conducted with

cooperation of the applicable exchanges, State and regulatory authorities and other Federal regulators such as the Federal Energy

Regulatory Commission.

I would note that the CFTC and the FERC entered into a memorandum of understanding last October that coordinates our joint

activities in ensuring the price integrity of the energy markets.

Also, the CFTC is an active member of the President’s Corporate

Fraud Task Force. The Commission has referred and will continue

to refer criminal matters involving energy markets to the Department of Justice for further investigation.

Our policing of the energy market reflects an approach to regulatory oversight that emphasizes tough enforcement against

malfeasants. Since December 2002, the CFTC has filed 32 enforcement actions, charging 27 companies and 23 individuals for misconduct in energy markets, resulting in nearly $300 million in penalties; and the Commission continues to pursue potential violators

of our Act.

Currently, there are over one dozen open investigations involving

the energy markets. Real-time enforcement continues to serve as

an important complement to our surveillance of these markets.

In recent years, with increased economic growth in China and

elsewhere, demand for petroleum products has risen faster than

has supplies of these commodities, supplies which have been impacted by geopolitical instability among oil-producing nations, limited refinery capacities due to Hurricanes Rita and Katrina, and

the transition from MTBE to ethanol as a component to reformulated gasoline. This has created very tight demand/supply balances

in these markets. Both supply and demand for crude oil and unleaded gasoline are ‘‘price inelastic’’ in the short run. As a result,
8

near-term changes in supply or demand can have disproportionately large effects on price.

Although U.S. energy prices have been volatile in recent months,

it is precisely during these volatile times when the risk management and price discovery features of futures markets are needed

most by commercial users of energy products. All the evidence that

we have seen is consistent with the notion that futures markets for

crude oil, unleaded gas and natural gas and other energy products

have been properly performing their risk management and price

discovery roles. The staff of the Commission will continue to conduct very close surveillance of these markets to ensure that they

remain functioning properly. Improper conduct will not be tolerated, and CFTC will continue to pursue aggressive enforcement actions against those who break the rules.

Mr. Chairman, some have said that blaming the futures markets

for high commodity prices is like blaming a thermometer for it

being hot outside. The CFTC’s role is to ensure that no one is holding a match under this thermometer; and, in my view, we are

doing a very effective job.

Thank you, Mr. Chairman. I look forward to your questions.

[The prepared statement of Mr. Lukken appears at the conclusion of the hearing.]

The CHAIRMAN. Thank you, Commissioner Lukken.

Dr. Newsome, welcome.

STATEMENT OF JAMES E. NEWSOME, PRESIDENT AND CHIEF

EXECUTIVE OFFICER, NEW YORK MERCANTILE EXCHANGE,

NEW YORK, NY

Mr. NEWSOME. Thank you, Mr. Chairman. Let me say it is an

honor to share the table with my former colleague, Commissioner

Lukken; and I know that the CFTC is working hard and doing a

great job.

NYMEX is the world’s largest forum for trading and clearing

physical-commodity-based futures contracts, including energy and

metals. We are a federally chartered marketplace, fully regulated

by the CFTC both as a contract market and as a clearing organization.

NYMEX provides an important economic benefit to the public by

facilitating competitive price discovery and hedging. As the benchmark for energy prices around the world, trading on NYMEX is

transparent, open and competitive and heavily regulated. Contrary

to some beliefs, NYMEX does not set prices for commodities trading

on the exchange. NYMEX does not trade in the market and does

not influence price movement. Instead, NYMEX provides trading

forums for market participants to come together and execute trades

at competitively determined prices that best reflect what they

think prices will be in the future, given today’s information.

Gasoline is the largest refined energy product by volume sold in

the United States and accounts for almost half of the national oil

consumption. It is a highly diverse market, with hundreds of

wholesale distributors and thousands of retail outlets, often making

it subject to intense competition and price volatility.

NYMEX trades, among other things, New York Harbor unleaded

gasoline futures contracts, which is a wholesale contract. Average
9

daily trading volume in these contracts has set record levels in recent months, and prices have been volatile.

NYMEX closely monitors the gasoline futures market and increases surveillance during periods of price volatility. We have seen

no evidence to date to suggest that recent price rises in gasoline

futures being traded on our markets are attributable to volatile activity.

Our analysis of the gasoline market has identified three key factors that are contributing to higher gasoline prices in both the cash

and futures markets: one, high crude oil prices; second, the MTBE

phase-out; and, three, reduced refinery capacity.

Crude oil is the main feedstock for gasoline production. Last

week, crude oil prices reached all-time highs of over $75 due to continued concerns about Middle Eastern and South American security and rising global oil demand.

The gasoline market is currently in a difficult transition period

between the phaseout of MTBE and the related transition to ethanol. Ethanol, which is chemically different from MTBE, contains

more volatile compounds than does MTBE and, therefore, is harder

to use in reformulated gasoline in the summertime. In addition,

ethanol cannot be carried in the Nation’s pipeline system and must

be segregated from the wholesale distribution system until its addition at the truck rack. Finally, ethanol presents new demand and

supply implications, which must be factored into the pricing of gasoline.

Even though no new gasoline refineries have been built in the

United State in decades, this imbalance has been mitigated somewhat by higher efficiencies from existing plants, which have generally operated at a high rate of utilization in recent years. However, such a high utilization rate also means that when utilization

rates are reduced for any reason, there will be an immediate impact on the availability of new supplies.

This year, the gasoline supplies have been constrained by lower

refinery utilization rates due to heavy refinery maintenance. Some

refineries reportedly had delayed maintenance work in the aftermath of Hurricane Katrina to ensure adequate gasoline supplies at

the end of last year and early this year. Furthermore, additional

refinery work is needed this year to comply with the new low-sulfur requirements in both diesel and gasoline. The end result is

tighter gasoline supplies in the short term until the higher refinery

utilization rates can be restored.

NYMEX has numerous surveillance tools, which are used routinely to ensure fair and orderly trading on our markets. NYMEX

consistently has been deemed by the CFTC to maintain adequate

regulatory programs and oversight, in compliance with its regulatory obligations under the Commodity Exchange Act.

Mr. Chairman, it is widely, yet inaccurately, theorized that speculators can drive prices up. With hundreds of commercial participants and instantaneous dissemination, any speculative price

would be met with an equally strong commercial reaction. If markets move in a direction inconsistent with actual market fundamentals, a vast number of market participants, including energy

producers, wholesalers and retailers, will respond to ensure that
10

prices rapidly return to where the industry consensus believes they

should be.

Speculators do exist and they play a valuable even necessary role

in the marketplace. They add liquidity to the market and enable

commercial traders to get in and out of the market when necessary.

By nature of their roles, speculative traders seek to participate in

price trends that are already under way, but because the lack the

capacity to either make or take delivery, they will never be in a position to be able to hold a market position through the delivery

process. Thus, speculators create virtually no impact on daily settlement prices, which are the primary benchmark used by the marketplace.

The NYMEX marketplace continues to perform its responsibility

to provide regulated forums that ensure open, competitive and

transparent pricing. We can only imagine the market uncertainty

and further devastation to consumers if NYMEX were unable to

perform its responsibilities.

Thank you, Mr. Chairman.

[The prepared statement of Mr. Newsome appears at the conclusion of the hearing.]

The CHAIRMAN. Thank you, Dr. Newsome.

Both of you have testified that the CFTC and the New York Mercantile Exchange do continual oversight of market conduct. We

would like to ask both of you if you and your organizations have

stepped up your oversight and surveillance of efforts in response to

the recent increases in gasoline prices.

Commissioner Lukken.

Mr. LUKKEN. Certainly we have. One statistic I will throw out to

you is, over the last year, 75 percent of our surveillance briefings

that we hold weekly at our Commission deal with energy issues.

This is despite the fact in part they represent less than 10 percent

of the marketplace; and that is because of the fears that you talked

about, manipulation and other concerns that Congress has provided us in our mission. So we certainly pay particularly close attention to energy markets, particularly in times of volatility.

The times that we do focus our surveillance efforts are during expiration months, as Dr. Newsome mentioned. So we, during those

times, that is when there is a heightened concern on surveillance

over speculative positions we watch where these markets may be

going. But our surveillance staff does an appropriate job of ensuring that manipulation is not occurring.

The CHAIRMAN. Dr. Newsome.

Mr. NEWSOME. Mr. Chairman, we absolutely increase our surveillance activity when the markets are volatile, which has been quite

often as of late; and NYMEX takes very seriously its role as a selfregulatory organization and as the front-line defense against antimanipulation, anti-fraud type activity.

Just to point out how seriously we do this not only because of

my former role at the CFTC but because of NYMEX’s opinion in

general, since the markets have become larger, more volatile, we

have greatly increased staff presence through our compliance division. We have added compliance staff to the floor that are in the

pit every day, monitoring activity of the traders. We have added

surveillance cameras to the floor so that we can tape the activities
11

and use that tape with compliance activities. We have taken numerous steps to make sure that the markets operate in an orderly

manner and that trading remains fair and competitive.

The CHAIRMAN. What type of a market anomaly would trigger

greater oversight attention?

Mr. NEWSOME. Typically, we look at volatility in the marketplace

and how much the price moves. Obviously, we have got lots of tools

at hand with regard to increasing margins, position limits, price

limits. We have used those tools. In fact, during Hurricane Katrina,

when we had some of the biggest price moves in the history of energy markets, we used every tool available to us to make sure that

the markets maintained an orderly fashion and we are proud to

say that they did.

So, typically, our increased surveillance is based upon volatility

or major movements in price.

The CHAIRMAN. Have either of you found any evidence of manipulation in the trading of gasoline or oil contracts?

Mr. NEWSOME. No, sir, we have not.

Mr. LUKKEN. We have not either, sir.

The CHAIRMAN. And, Dr. Newsome, what type of enforcement activity is available to you when you do find such?

Mr. NEWSOME. We have a broad array of enforcement actions. I

think probably the strongest tools that we have are the ability to

fine, and we have no limitations on our ability to fine market participants. I think probably even beyond the fines, our ability to remove the trading privileges of those on the floor is the strongest

tool that we have; and we have used both of those tools. Fortunately, not with regard to manipulation, because we haven’t found

manipulation, but those are the tools we have available.

We are in constant communication with the CFTC with regard

to any type of enforcement activity and actually work very closely

with the enforcement staff of the CFTC.

The CHAIRMAN. Mr. Lukken, what tools are available to you and

how do you utilize them with regard to the futures trading organizations like NYMEX?

Mr. LUKKEN. Well, we certainly have similar tools to what

NYMEX has but enhanced tools as well. Our enforcement authorities allow us to revoke or suspend licenses of traders, to halt prohibited activity, to order restitution, impose civil monetary penalties, and to refer matters to the criminal authorities at the Department of Justice, should it be appropriate. So we, over the

years, have a pretty strong track record in this. As I mentioned,

we brought 50 cases against individuals and companies levying

over $300 million in civil monetary penalties against those entities.

We have 12 open investigations currently in energy, so we are

not sitting idly on our hands in these areas and continue to probe

especially during these volatile energy times.

The CHAIRMAN. Finally, let me ask both of you, when was the

last time you had to take enforcement action against the possible

manipulation of gasoline prices?

Mr. NEWSOME. Mr. Chairman, I will have to look into that. I

don’t recall us having done so certainly in my tenure. Our compliance group is very active, but we have so many steps in place to
12

prevent it from ever happening to begin with. I don’t recall having

to bring an action against actual manipulation.

Mr. LUKKEN. I have just been informed by our head of enforcement that we have not taken any sort of actions of late, but we do

have open investigations in which we are studying some of these

issues.

The CHAIRMAN. Thank you very much.

The Chair recognizes the gentleman from Minnesota, Mr. Peterson.

Mr. PETERSON. Thank you, Mr. Chairman.

This chart here that is in your testimony—it is figure 3, Delivery

Notices, I think. What is this big spike there in November, December 2004 and again in June 2005 on the deliveries there? They are

way up. What is going on there that causes there to be such a

spike in those months?

Mr. LUKKEN. I think there were certain economic situations at

the time. We can get back to you with further details on why the

spike is.

But I would note that, overall, compared to open interest, even

though these deliveries were high at the time, compared to actual

open interests and deliverable supply, this was not an exceedingly

large proportion of possible deliveries in this area.

So even though there is a spike there—and we will get you more

information as to why this did occur—this did not raise concerns

with our economic staff because there were enough supplies available at that time to provide those deliveries.

Mr. PETERSON. So this was a small part of the market, what you

have identified here.

Mr. LUKKEN. I think that is correct.

As I noted in my written testimony, deliveries normally occur

less than 1 percent across the board in the futures markets; and

we are constantly, constantly looking at the amount of deliverable

supply compared to those who are seeking delivery and making

sure that, as people come down in spec limits in the spot month,

that they are able to make and take delivery properly and that the

futures markets are properly functioning.

Mr. PETERSON. If you would get back to me and let me know

what is going on there.

Mr. LUKKEN. We certainly will.

Mr. PETERSON. The other thing that is coming up at home more

and more, we have a good share of the E–85 pumps in the country

in my State. A couple of years ago, you could buy E–85 for 70 cents

a gallon less than gasoline; and now it is 20, 30 cents. Is that what

it is in your area?

So we have people asking questions about what is going on. Because the cost of production of ethanol has actually gone down in

those 2 years, not up; and the renewable fuels people tell me that

there is no shortage in terms of the amount of ethanol that is available. There might be some distribution issues. As far as I know,

there is—I guess there is—Boston, New York, Philadelphia, Washington are going to start substituting ethanol for MTBE, is going

on right now, might be an issue.

What is going on there, apparently, about a year ago or maybe

a little more, ethanol started to follow gasoline prices where it
13

didn’t necessarily do that before. Is there something going on that

fundamentally changed the situation? And was the fact that the futures contract was established on the Board of Trade, did that have

something to do with this? I am getting questions from people at

home; and I can’t really answer why this is occurring. Do you

know? Mr. Lukken?

Mr. LUKKEN. The Chicago Board of Trade, as you noted, began

listing an ethanol contract last April; and in some ways this is the

silver lining. As you talked about earlier, encouraging more ethanol

production in the United States and listing a benchmark in this

area is going to help resources and capital being devoted to building more ethanol plants and people utilizing ethanol more.

In regard to your question, it is really a retail pump ethanol

question. From my understanding of the ethanol markets and our

economists who study these markets, there are some difficulties in

the transition from MTBE to ethanol that is taking away some supplies in that area.

Also, there is obviously some transportation issues. Ethanol cannot be transported through pipelines, compared to the petroleumbased MTBE that we have utilized over the last few years; and, in

addition, ethanol, because of localities, where the plants are located

and where it is a lot of the consumers of ethanol may be, that also

has been impacting the price of ethanol around the country.

But I will try to drill down with my economic staff to see if we

can find more concrete information for you and maybe some of the

more fundamentals of why the price differences at the pump.

Mr. PETERSON. Are you following the futures contracts on the

Board of Trade? Are you investigating those and studying them the

way you are the gasoline?

Mr. LUKKEN. We do. We do. We have an economic staff devoted

to that that looks at all participants, receives all the end-user information of who is trading in those markets, what their positions

might be, what their positions might be in other energy markets

that might affect those markets. So we follow that very closely, and

to date we have not found a problem in the ethanol contract.

Mr. PETERSON. Well, if you could look into that and give me a

report back on what you think and what you find out, it would be

appreciated.

Mr. LUKKEN. We will do that.

Mr. PETERSON. Thank you.

The CHAIRMAN. I thank the gentleman.

The gentleman from Oklahoma, Mr. Lucas, is recognized.

Mr. LUCAS. Thank you, Mr. Chairman.

Commissioner and Doctor, obviously, both of you with your oversight responsibility to monitor all these things closely, whether it

is explaining those charts or just for the sake of discussion, would

you describe for me how the level of futures contract activities has

gone on in recent months? Has there been ups, downs, spikes? Are

we seeing substantially more trading of both crude oil contracts

and unleaded gasoline contracts than we would have seen in the

same, say, 6-month period 2 years ago, 5 years ago, 10 years ago?

I assume that part of your oversight is to watch the level of activity

in particular areas.
14

Mr. NEWSOME. Absolutely. And the good bottom line answer is,

yes, volumes have increased. We see more activity in the marketplace by both commercials and noncommercials as well; and, as I

stated in testimony, those prices have been volatile. We have seen

major market moves earlier—or late last year based upon weatherrelated events. More recently, it has been based upon insecurity in

major oil-producing regions; and we are at a point with regard to

supply and demand there is no margin to play with.

In the past, if we got into a fundamental crunch, we had Middle

Eastern countries who had the capability of pumping more oil. We

don’t have that luxury now. So because we don’t have that luxury,

any impact around the globe—and these markets have truly become global markets now—any kind of—whether it is a refinery in

Venezuela, political activity in Iran or Iraq, they all have an impact

on the market. And because prices have been more volatile, more

and more people are coming into the marketplace to try and hedge

that price risk.

But, yes, we monitor that every day.

Mr. LUCAS. So are we to the point of what would be described

as a frenzy?

A lot of us think back to the early 1980’s in the metals markets

when there got to be a total frenzy point when the number of contracts in silver and gold went totally ballistic and the volume then

of participants drove the market in such a way that it pulled the

real commodity prices with it, as opposed to the futures reflecting

hard delivery commodity prices was the other way around. Have

we seen that level of activity in the futures contracts in crude oil

or gasoline yet? Has this volume increased to the point that it has

taken a life of its own?

Mr. NEWSOME. I wouldn’t characterize it as frenzied activity, but

certainly it has been very active activity in the marketplace.

But if you look at the global markets, whether it is North Sea

Brent that is traded in Europe versus WTI that is traded at

NYMEX, the same pricing patterns continue in all the global markets. So it is not just a U.S. issue. It is a global issue.

In terms of the volume of contracts traded, we see no issues or

no problems with the current volume of futures contracts being

traded in energy.

Mr. LUCAS. Do we have a record number of crude oil and unleaded gasoline contracts out at this particular moment?

Mr. NEWSOME. Open interest is at the highest levels in recorded

history.

Mr. LUCAS. And comparing the next most recent level of activities 2 years ago, 5 years ago, 20 years ago, a factor of a few percentage points more or twice as many? Or give me a guesstimate,

gentlemen.

Mr. LUKKEN. I can just note on futures contracts in general—I

am not sure about energy contracts, but futures contracts since

2002 have doubled, from a billion contracts traded to 2 billion contracts traded. So some of this is just growth in the industry in general.

Specifically to the futures markets in energy, we certainly have

seen a lot of activity, a lot of growth. But our surveillance efforts
15

have shown that there is enough deliverable supply to meet that

need.

As I mentioned in my testimony, volatility brings hedgers to the

market, because they want to get rid of the risk that they might

see in those markets. So even though there is volatility, even

though there are greater volumes, this is a time we need the futures markets the most.

Mr. LUCAS. Thank you, gentlemen.

I yield back, Mr. Chairman.

The CHAIRMAN. Thank the gentleman.

Gentleman from Pennsylvania, Mr. Holden, is recognized.

Mr. HOLDEN. Thank you, Mr. Chairman.

I have a question for both of our witnesses.

What do you regard are the most significant threats to the integrity of the energy derivative markets and what strategies do you

use to ward off these threats? And, finally, do you feel that the

Commodity Exchange Act is sufficient to ensure the integrity of our

Nation’s market?

Mr. LUKKEN. I will begin. I think the biggest threat to our markets is the protection of the markets. That is stated in our mission.

The integrity of the markets, preventing manipulation, preventing

trading abuses and our whole regulatory regime is structured to

look for that activity, find it, prevent it, and if it does occur to punish violators that may be involved in that type of activity.

So I think the Commodity Exchange Act has worked exceedingly

well, particularly under the guidance that this committee gave us

in 2000 with the passage of the Commodity Futures Modernization

Act.

Before that Act, as you remember, our laws were very prescriptive, very static. The flexibility provided in that Act allows us, as

a regulator, to be more flexible as the markets change, to be able

to look around the corners for different trends that might be coming, globalization, the growth of the markets in general, all the

things we are seeing in the economy.

So, yes, I think the Act is working well, and it is our job to protect it, and that is its biggest threat.

Mr. NEWSOME. I think when we look at threats to the marketplace I would address it two ways.

One, I think the threat to market integrity that is largest is manipulation; and that is why both the Commission and NYMEX

spend millions of dollars to try and prevent that. Can we sit here

today and assure you that will never take place? No. But, obviously, we spend lots of time and effort trying to make sure that

that is not the case.

I think financial risk is the other greatest threat. The risk that

in volatile times the demise of one market participant could have

negative impact on other market participants is something that we

manage every day, particularly with this volatility through margins.

But I think there is a very, very good system in place, both by

the exchanges and by the CFTC. You look at back at the collapse

of Enron, which was one of the largest market collapses in history,

and the fact that the financial integrity of the exchange stayed in

place through the rules and regulations of the CFTC and NYMEX.
16

Those are the two areas we concentrate on.

Mr. HOLDEN. You believe you have sufficient tools? Is there

something else this committee can do to help you?

Mr. NEWSOME. Certainly we believe that we have very sufficient

broad tools available to us, and we are not coming before this committee today to ask for anything further. We think it is sufficient.

Mr. LUKKEN. I agree. In regard to these markets, we have provided this committee our recommendations for reauthorization as

a Commission; and those were incorporated in your bill. But, beyond that, as far as in particular for the energy markets, we feel

we have adequate tools.

Mr. HOLDEN. Thank you, Mr. Chairman.

The CHAIRMAN. I thank the gentleman.

The gentleman from Mr. Nebraska, Mr. Osborne, is recognized.

Mr. OSBORNE. Thank you, Mr. Chairman; and thank you for

being here this morning.

I would like to pursue Mr. Peterson’s line of questioning a little

bit further in that we see quite a bit of E–85 production in Nebraska. About the time of the Katrina dislocations, I made a few

phone calls to some of our ethanol production facilities and I said

I don’t understand this. Because gasoline is $2.80, and we are seeing E–85 at $3, $3.25 a gallon, and certainly our ethanol plants

were not affected by Katrina. And we don’t understand this. I can

understand if it if a refinery were shut down on the gulf coast

somewhere. And I had trouble getting real clear answers. There

was some talk about terminals and having to send it some place

to have it blended and those kinds of things. So I wonder if you

would be willing to comment on your thoughts on this.

Also, maybe a question that goes a little further, I think in Brazil

they burn 100 percent ethanol, which would mean that you might

not have to go to a national. You might not have to do blending.

Is there really a necessity that we have E–85 instead of E–100? Because then you could really isolate this is what it costs to make a

gallon of ethanol and why not go ahead and sell it as it costs. Because, as Mr. Peterson mentioned, E–85 should be 40 to 60 cents

a gallon cheaper if you do the math; and here we are seeing it

sometimes as high or higher than regular gasoline.

So this may be out of your area of expertise. I would be interested in your comments; and if you can’t answer that, I will ask

you another question.

Mr. LUKKEN. I would just note that our jurisdiction at the Commission is really overseeing the marketplace and the futures markets and the ethanol contract that is trading at the Board of Trade;

and, to date, we have not seen any manipulation problems in regard to that contract in general.

I know that the Federal Trade Commission has been looking at

price gouging at the pumps, broadly speaking, for gasoline as well

as for ethanol; and we will, as an agency, through our cooperative

enforcement efforts try to work with them and if we might have information that might be derived from the futures markets, to have

them look at those cases of potential price gouging and help that

investigation.

So, unfortunately, it is a little bit outside of my expertise.
17

We have been closely studying what has been happening in

Brazil as a model potentially for the United States. I think it is

very exciting what they have done and certainly a model we should

study closely as we go forward on ethanol production.

Mr. NEWSOME. Congressman, we don’t trade in ethanol contracts

at the NYMEX, so my knowledge is limited there.

Mr. OSBORNE. What you guys are saying, it is a bad question.

Probably was.

So one other question that may be equally bad is refinery capacity. I am just trying to get at solutions here because, in most manufacturing, they are operating at 80, 85 percent of capacity; and we

find refineries are at about 95 percent of capacity. As you mentioned, all it takes is a little hiccup someplace and all of a sudden

you are over the top.

We have seen pretty good profits by the oil companies, but it

seems like they are very reluctant to reinvest a whole lot of money

to remove that deficit of refinery capacity. From your seat, would

you say that maybe there should be something done to force some

reinvestment to create greater refinery capacity? Because, obviously, it is a problem.

So, again, a very difficult question for you to answer, but I would

appreciate if you would take a shot at it.

Mr. NEWSOME. The question is difficult, and I think we can

spend a lot of time here today just talking about refinery capacity

and why we are in the situation we are in. Obviously, that is somewhat outside of our expertise.

I would just comment by saying that we are in constant contact

with refineries because of their activity in the marketplace; and I

think some of the difficulty with regard to the refineries has been

environmental rules, the difficulty in getting the permits to simply

build one, the expense to build new refineries. So I think the effort

by the industry in more recent years has been to try to take old

refineries, upgrade them and make them more efficient, which is

both good and bad, given our situation today.

I know that there is interest by refineries in building more, and

I say that simply because they have contacted us to see if the

NYMEX would be interested—we currently list our crude oil contracts out 7 years. They are asking if we could extend that time

period so that they could actually hedge prices—if they build new

refineries and they are in the market, that they could actually

hedge out a longer period of time to protect their financial price

risk.

From our standpoint, if there is a commercial need to extend the

number of contracts that we list, we are more than happy to do so.

Mr. OSBORNE. Thank you, Mr. Chairman. I think my time is up.

The CHAIRMAN. I thank the gentleman.

The gentleman from Georgia, Mr. Marshall, is recognized.

Mr. MARSHALL. Thank you, Mr. Chairman. I am a bit surprised

to be called on now with all these senior Members to my left.

Gentlemen, could each of you give your opinions concerning why

we are seeing such high gasoline prices and with regard to matters

that you supervise or are involved in or other matters, what we as

a Congress ought to be doing right now to try to address this problem and whether there is something that we as a Congress could
18

be doing right now in order to address this problem, or is there no

real short-term fix, that it is going to take some time and there are

some things we should do but we are not going to have short-term

relief?

Could you address that? I am sure you have thought about it.

Mr. LUKKEN. Congressman, obviously, there are a lot of factors

that go into what the price of gasoline is at the pump. We dot not

have jurisdiction over any sort of retail production or oversight over

retail gas prices.

I think Jim’s testimony provided a pretty good breakout of where

the problems lie. A large component of the price of gas, as EIA will

tell you, is 45 percent of it is crude oil, and there are a variety of

factors why crude oil prices are high: political instability in oil-producing nations and supply-and-demand issues in China and otherwise.

The other reasons that were mentioned by Congressman

Osborne, refinery capacity, I think we are currently at 88 percent

currently post Katrina and Rita hurricane events, and so we are—

EIA is predicting us to be close to 95, 96 percent by June. So I

think that is good news that we are going to be up and running

almost full capacity, 95, 96 percent. We are never at 100 percent,

so that is basically full capacity of refinery by June. So that is also

good news and hopefully may help at the pump.

The last issue is, dealing with MTBE ethanol, some of the things

are structural, that you are not able to transport ethanol through

pipelines, that you have to truck it or ship it or rail it to places;

and that provides logistics difficulties we are trying to work

through now that may be contributing to the high price of gasoline

and ethanol in particular.

Mr. MARSHALL. That does summarize what you described in your

written testimony, Mr. Newsome.

Let me ask you this, and again it is a question for both of you,

but, Dr. Newsome, perhaps we will start with you.

GAO recently gave testimony before the Senate, and in that testimony identified the exact same things that you just mentioned.

And they are kind of long-term problems that we have here. There

is not going to be an immediate fix like the ones you just described.

But, in addition, you talked about mergers that occurred in the

industry that supplies us gasoline, from the production and all the

way through transportation, to wholesale, to delivery, and said that

in the 1990’s until today there have been about 2,300 mergers, that

GAO had studied only 8, and under their econometric models, the

majority of those mergers led to 1 to 7 cents per gallon increase in

wholesale prices, suggesting that, in fact, mergers have had maybe

an anti-competitive effect and maybe an effect that has caused an

increase in the overall cost to all of us.

When you see these enormous profits that some of the companies

are making right now, ordinary Americans, anyway, and folks like

me who don’t have a tremendous amount of expertise kind of wonder whether or not there is some price fixing that is going on here,

some anti-competitive pressures. Perhaps the FTC has approved

too many mergers.
19

I would like your comment. I understand this is outside your

lane, but this is something you have thought about. I would like

your comment and perhaps Mr. Lukken as well.

Mr. NEWSOME. Congressman, I think specifically to your second

point, the only way that I could comment would be to look at the

makeup of the traders in our marketplace; and I would respond

that that has changed very little over the last number of years. In

fact, today, still 75 percent of the volume held in our gasoline contract is made up of commercial participants. I think that has

maybe decreased 1 percent over the last several years. So the commercial component still makes up the vast majority of the open interest in our markets.

We looked specifically last year at the role of hedge funds because it had become a big issue, and less than 3 percent of the volume in crude oil was held by hedge funds.

Mr. MARSHALL. My question is, and it is piggybacking on what

GAO has already suggested. It doesn’t have to do with whether or

not the futures market and futures trading and speculators, et

cetera, are causing the problem. It is, do you perceive there is perhaps a problem as a result of these mergers that are occurring, producing an anti-competitive environment that the futures market,

frankly, can’t solve? Are you suggesting that the futures markets

can solve that and it ensures competition that——

Mr. NEWSOME. No, sir. I am not suggesting that we can solve

that at all. Nor have I looked at that report and have anything

really to add to the comment.

I think I agree there is no short-term solution to higher energy

prices. In fact, I would argue that we may be in for a more difficult

road ahead. Certainly high prices tend to be the biggest economic

driver of responses, and I think conservation is probably our most

immediate response with regard to high prices.

My concern is, when you look at the increased usage in China

and India, it has been primarily industrial; and that industrial

usage has put severe upward pressure on prices. My concern is, as

both of those countries develop more of a middle class and that

middle class demands cars and air conditioners and the things that

we enjoy here, that it is going to put even more upward pressure

on global energy prices.

The CHAIRMAN. I thank the gentleman.

The gentleman from Texas, Mr. Conaway, is recognized.

Mr. CONAWAY. Dr. Newsome, you mentioned hedge funds. Could

you flush that out a little bit in terms of there has been some speculation that hedge funds had an inordinate impact on certainly the

price of crude oil. Do hedge funds trade exclusively on your exchange? Are there other exchanges in which they have availability

to trade that happen outside of your jurisdiction? What is your role

on hedge funds?

Mr. NEWSOME. The first component, yes, we have active hedge

fund participation in our marketplace. As I said, when we looked

at it last year, it made up about 3 percent of the volume in our

crude oil contracts, a slightly higher percentage in natural gas.

We did not find that they had any impact on price volatility or

upward pressure in prices, one, because of their small level of activity in our marketplace.
20

Secondly, we found, surprisingly, that the hedge funds tended to

hold on to their positions longer than normal market participants

which argues against adding to volatility.

The second component of the question is NYMEX is but one piece

of the pie, that whether you are a hedge fund speculator or a commercial participant, we are but one piece of the pie, that the marketplace has to try and hedge price risk or trade. NYMEX happens

to be the only regulated transparent component, and that is a responsibility that we take very seriously.

I think there is the traditional over-the-counter marketplace

which the contracts are bilateral, individually negotiated between

major commercial participants or banks. The trade in the over-thecounter market is huge. It dwarfs the amount of volume traded at

NYMEX.

Then, from an exchange standpoint, there is the Intercontinental

Exchange based in Atlanta that trades somewhat in a bilateral

marketplace or the over-the-counter marketplace and than also

lists futures contracts that are directly competitive to those listed

on NYMEX.

The futures contracts are regulated by the U.K. regulator, the

FSA, where we are regulated by the CFTC. There is a difference

in the regulatory structure of the two organizations, even though

they are considered in general to be comparable in nature.

Mr. CONAWAY. You talk about the private market bilateral

dwarfing your volumes. Can you tell that those prices, how does

that influence or impact prices on your market?

Mr. NEWSOME. You have a lot of the same market participants

that are involved in the over-the-counter activity, activity on ICE

and activity on NYMEX. But those prices are not transparent, so

we do not see that.

Mr. CONAWAY. You just have got the same players?

Mr. NEWSOME. Right.

Mr. CONAWAY. Commissioner, do you have any comments on

hedge funds?

Mr. LUKKEN. Just that we follow hedge fund categories very

closely. We are able to see them as a class and what they are doing

from time to time throughout expiration of a market, and should

any type of unusual activity occur by hedge funds we are quick to

get on the phone and talk to them about it. Why are they doing

it? What is their position? What is the economic justification for it?

And then bring enforcement actions against hedge funds and others should they violate our Act. We brought, I think, over 10 cases

a year over the last 12 years against hedge funds, so we are very

active in overseeing those participants.

Mr. CONAWAY. Speaking to your comments earlier where you

said you do not recall either specific actions in relation to gasoline

prices or gasoline contracts, you are not seeing hedge funds as

being a driver on that that is inappropriate?

Mr. LUKKEN. I think our view so far of the gasoline market as

traded on NYMEX is it is kind of an appropriate balance of speculators, hedgers, commercials, noncommercials, hedge funds and

others that does not bring any sort of concern for us. Again, we

really focus in on the expiration month. But normally hedge funds,

as Jim says, act to bring liquidity to the marketplace; and we cer-
21

tainly encourage those trading activities as long as it is not excess

speculation during expiration.

Mr. CONAWAY. Thank you. I yield back.

The CHAIRMAN. Thank you.

The gentleman from North Carolina, Mr. Etheridge, is recognized.

Mr. ETHERIDGE. Mr. Chairman, thank you.

You know, as I sit here this morning listening to our two capable

witnesses, I sort of find myself struck by a profound sense of deja

vu. We have been here before.

First, here we are a month after another summer season is getting ready to start, yet again hearing from my constituents in agricultural and rural areas of this country, I have had telephone calls

and e-mails for the last several days wrapping me up.

Since 2000, when the President took office, we have seen spike

after spike after spike in gas prices. They come down, but they

never come back to where they were, and they just keep going up.

They keep spiking. And while it may be good news for the oil companies, I can promise you one thing, the billfolds and pocketbooks

of consumers are getting lighter and lighter, while some other folks

are getting heavier and heavier. And today and tomorrow we will

have record profits by the oil companies, and I promise you they

will be bigger and record profits all over again. They continue to

get rich, and consumers tend to get poorer.

They have a tough time even getting gasoline to go to work. I

stopped by to get gas the other morning before I came to Washington. A lady stopped in front of me and put in $5 worth, less than

2 gallons of gas, just enough to get to work.

There is a problem out there, and it is a big problem. As a farmer and a small businessman I strongly support a free enterprise

system. But the American people deserve to be protected against

abuses in this market economy. That is the role of the Federal Government.

I am glad, Mr. Chairman, we are having this hearing today; and

I want to thank you for it, because we need to know how the regulators are performing and if they are performing at a level.

The other reason I am experience deja vu is because whenever

we experience these spikes in gasoline prices or oil prices or natural gas, we never really hear that the fault lies with the people manipulating the futures market to drive the prices up. Now one of

the missions of the CFTC is to seek out and stop the market manipulation. These exchanges are likewise charged with maintaining

open and competitive markets.

It is hard to imagine there is someone or some group who for the

past 6 years have been able to successfully manipulate energy markets, reap tremendous profits and escape detection. But the charge

continues to be made, and it is our responsibility to respond and

to investigate. So we have the regulators who are here again today.

So I have two questions. I would like to ask, in the interest of

time, both of them.

Commissioner Lukken, the figure you cited regarding noncommercial participation in gasoline and oil futures market are

limited to those traders falling under the large trader reporting requirements, correct?
22

Mr. LUKKEN. Correct.

Mr. ETHERIDGE. What mechanisms are in place to protect the

consumer or customer from hiding a large position by purchasing

contracts with different merchants and remaining below the large

trader reporter levels with each merchant, and what prevents people from gaming the system in this way?

My second question is more of a regulatory question. I have been

hearing about ICE futures and its chain owned by U.S. companies

but regulated under foreign jurisdictions. I have long been concerned about foreign exchange regulations and the competitive advantages that they may have as it relates over our U.S. exchanges.

In the battle for markets and liquidity, I fear exchanges could resort to forum shopping, choosing to operate in a less regulated regime than our own in order to secure a competitive advantage and

the consequences of this that it would have on the Commission’s

ability to seek out and prevent fraud and manipulation. So could

one or both of you tell us about the differences in the regulatory

regime that the New York Mercantile faces and what ICE reporting requirements are as well in the contract positions limits and

also discuss generally whether there is a level of regulatory fee or

whether it is level; and if not, why, and what we need to do to fix

it?

Mr. LUKKEN. Your first question dealt with how we capture potential people using multiple brokers in order to hide large positions. Our Large Trader Reporting system captures that by aggregation of certain control numbers that goes to the end user. You

cannot hide behind a broker or FCM in this situation in order to

trade large positions, even though individually they might be

small. So we capture that, and we are confident we see all of these

positions in the aggregate.

In regard to your second question on ICE futures, as you stated,

ICE futures is an exchange located in Britain with a separate

board located over there. They are owned by ICE in Atlanta, but

under FSA law they are under the highest regulation there, with

a separate board of directors running that corporation.

It has been subject to our no-action process since 1999. This was

developed to allow foreign boards of trade with comparable regulatory structures to get access to U.S. customers. As long as we did

some type of analysis to ensure that we had information-sharing

arrangements in place, there was some kind of general comparability between these markets. And this type of arrangement obviously

helps our marketplaces, too, that are seeking to go overseas to locate customers that might be interested in trading on the Chicago

Board of Trade, the CME or NYMEX, for instance. So we put this

no-action process in place in 1999.

Recently, it has been brought to our attention because of the listing of WTI contract in direct competition with NYMEX. I think

what has brought concern to us as regulators on this issue is the

fact that it is based on the closing price of NYMEX.

As far as whether it is in compliance with the no-action process

that we did in 1999, yes, it is. But we still want to make sure that,

because of this unique situation, we have the right surveillance and

information-sharing arrangements in place, and we have been

working over the last several weeks since this occurred to ensure
23

with FSA that we are getting the right information so that both of

us are properly surveilling the entire marketplace in this area. I

am confident we are.

Over the long run, however, our chairman has noted publicly

that we plan to look at this process to make sure that it is addressing the public interest as it should be. As you mention, there may

be differences between regulatory structures. I think we need to

make sure that the end game that we are after—preventing manipulation, ensuring market integrity—is really the goals that we are

after.

I think if you compare the two side by side there are always

going to be differences. They do some things differently. It was developed differently than ours. Ours has a long history behind it as

well. We want to make sure there is no regulatory arbitrage between the two. There is some comparability, as you mentioned, but

also that there is not a race to the bottom among regulators, that

markets are able to pick and choose the best of both situations to

their advantage. So over the long term this is what we are going

to be studying, and hopefully we can address that and report back

to Congress on our findings.

Mr. NEWSOME. Congressman, with regard to that same issue,

NYMEX has asked the CFDC to review the regulatory structure of

ICE, ICE futures, because we believe that there is an unlevel playing field. I was at the CFTC when the no-action letters were created and used, and we believe that those no-action letters remain

totally appropriate today. It gives access to U.S. customers, products traded on foreign exchanges.

We believe that the way ICE has evolved, that there is a question as to whether or not they actually remain a foreign exchange.

When ICE purchased the International Petroleum Exchange, there

obviously was an exchange in London; and it was under that exchange that they asked for the no-action request that was appropriately granted by the CFTC.

The markets evolved, and ICE has evolved. They have since

closed that facility in London, and all their trades are conducted

electronically through the home headquarters in Atlanta. They

trade competing products to the New York Mercantile Exchange.

They do so without the same hard-position limits that are required

at the New York Mercantile Exchange, and they do so without the

regulatory requirement to submit daily large trade reports, as does

the New York Mercantile Exchange.

So I think that NYMEX and the Commission are having a very

good dialog with regard to what that regulatory role might be, but

certainly as the markets have evolved they have changed. Differences in regulation have created a competitive disadvantage in

some instances to U.S. exchanges, and it is something that we are

concerned about.

The CHAIRMAN. I thank the gentleman.

The gentleman from Michigan, Mr. Schwarz, is recognized.

Mr. SCHWARZ. Dr. Newsome, I am going to ask you to give about

a 41⁄2 minute Futures 101, if you do not mind, to initiate the

uninitiated, one of those people who was always warned you never

get into the commodities market, the futures market, the deriva-
24

tives market, because it is so arcane and so nuanced beyond apprehension and impenetrable that you just do not want to go there.

So let’s say I am a trader, and I have got a few million bucks.

Walk me through how I get into the, say, the crude futures market,

buy a contract on NYMEX, and how I might either profit from this

experience or lose money from this experience.

Mr. NEWSOME. I do not know that I can do that in 41⁄2 minutes,

but I will try.

Mr. SCHWARZ. I am not sure you can either, but let’s give it a

shot.

Mr. NEWSOME. First of all, to participate in the marketplace, to

become an actual trader is a rather lengthy process. It is highly

regulated. There are a number of registrations both with the

CFTC, the National Futures Association, that you have to go

through.

A typical customer would enter orders through a banker or brokerage firm who has memberships on the exchange versus trying

to become a trader themselves.

It is very different whether you are entering the marketplace

from a speculative standpoint or whether or not you have the underlying commodity and you are using the marketplace to hedge or

set a floor on that risk. There is no question that, from a hedger’s

standpoint, the markets do a wonderful job of managing price risk,

allowing market participants to protect themselves against risk

and price.

The speculators, it is a completely different animal with regard

to the hedgers. Typically, speculators will trade a trend. Once they

see that a trend has developed, they will start taking positions

along that trend line. But it is speculative. And sometimes they

guess right, sometimes they guess wrong.

But I think the one thing about futures markets that we have

to remember is that, at the end of the day, it is a zero sum game.

For every one that wins or guesses right, there is an equal and offsetting loser. So very different from the equity markets where everyone can win or everyone can lose depending upon what is going

on in the marketplace.

But from the hedging standpoint, whether a hedger wants to

hedge that risk in the open outcry pits that are on the facility in

New York, whether they want to use our electronic trading system

to manage that risk, they have got multiple opportunities to do so.

The function of the exchange I think remains virtually the same as

it did when it was created 135 years ago in terms of supplying a

very good mechanism and opportunity to manage price risk.

Mr. SCHWARZ. This question has been asked before, but this is

for my edification—people still trying to get in and manipulate the

market, manipulate prices, windfall profits sort of thing, and is

that affecting in any way the price of petroleum or gasoline now?

Do you feel basically the market is now on the up and up and what

we are seeing literally is the basic economic principle of supply and

demand?

Mr. NEWSOME. While, as consumers of energy products, we do

not necessarily like the message, but we are confident that the

market is operating as intended, that it is following the fundamentals of supply and demand.
25

Mr. SCHWARZ. Thank you.

Thank you, Mr. Chairman. I yield back.

The CHAIRMAN. I thank the gentleman.

The gentleman from North Dakota, Mr. Pomeroy, is recognized.

Mr. POMEROY. I thank the Chair; and I want to join comments

made by both sides of the aisle, Mr. Chairman, congratulating you

for having this hearing.

I believe it is a good start, but I hope that we commit ourselves

to much further work on this whole issue of pricing of fuel and

then the consequences of higher gasoline and higher input costs to

our farmers.

We are involved in a fairly arcane exercise here of trying to understand futures markets. There is something much less arcane

that we have to understand, the threat to our farmers posed by

higher gas prices. I would like to have a hearing that just focuses

on that and what we might do about that. We are looking for

whether or not there is some boogey man driving prices in these

futures trading areas, all well and good, but let’s look at what we

can do right now to help farmers facing the most expensive spring

planting in the history of U.S. agriculture.

The Senate Committee on Appropriations took action on a bipartisan basis that I find extremely interesting. They put into the supplemental appropriations bill a response for agriculture. It includes

assistance for farmers who have had disaster losses in 2005 production. I believe that step should have been taken last year. Better late than never. We ought to do that.

It also acknowledges that, in the face of potentially ruinous costs,

they have not been able to get their business plans to pencil out

as they sit down with bankers on operating loan negotiations, and

there is a 30 percent bump in AMTA payments to assist in dealing

with the near term with these high energy prices.

Mr. Chairman, I would really like to have a discussion on the

merit of this concept in this committee. I think it could be extremely helpful for producers. It is just not enough for us to go

back to our farmers facing the catastrophe of these high gas prices

and say, well, we are studying how the future markets work. There

is something concrete we can do now, and we need to attend to it.

Now as to the matter of this hearing, Dr. Newsome, it is great

to see you again. You have a new hat on since the last time that

I believe I have had a chance to inquire of you in this hearing. Is

it fair to say that hedgers add liquidity to the markets and speculators add volatility to markets?

Mr. NEWSOME. No, I do not think so. In fact, speculators add the

opportunity for the commercials to get in and out of positions when

they need to hedge risk. I think the vast amount of liquidity comes

from the noncommercial side, the speculative side of the equation,

not vice versa.

Mr. POMEROY. The vast amount of liquidity in futures markets

is speculative driven? Short-term traders trying to game the timing

just right?

Mr. NEWSOME. No. The vast majority of open interests, positions

held by the marketplace is held by commercials.

Mr. POMEROY. I heard you exactly wrong then. Most of it speculating money, and some of it is hedging money.
26

Mr. NEWSOME. Seventy-five percent of the positions in, say, the

gasoline market is held by commercial producers, only 25 percent

by noncommercials. But I think we were talking about two different things.

The open interests, those who have the contracts, is the 75–25

breakdown that I just commented on. But when you look at the liquidity, the ability to get in and out of a trade everyday in the pit,

it is the speculators that help provide that liquidity so that the

commercials can take the positions that they want to take. If a

commercial participant wants to take a position, whether it is going

up or down, someone has to be willing to take the opposite side of

that position, and the speculators are the ones willing to do so.

Mr. POMEROY. But is that putting us on a roller coaster that

would otherwise be more of a level and predictable pricing environment?

Mr. NEWSOME. No. Because the market is going to move based

upon the fundamentals of the marketplace. We do not see that that

type of activity adds volatility to the marketplace at all.

Mr. POMEROY. I am hearing with grain futures trading, for example, a volatility now that we have not seen before reflecting the fact

that there is more speculative money in. Given your background on

CFTC, is it your position that grain markets have not been more

volatile?

Mr. NEWSOME. I haven’t studied grain markets recently, so I do

not know what is happened in volatility, Congressman. But my

general perception would be that volatility is not created by additional speculators coming into the marketplace.

Mr. POMEROY. Thank you very much. I yield back my time.

The CHAIRMAN. Thank you.

The gentleman from Kansas, the chairman of the subcommittee,

Mr. Moran, is recognized.

Mr. MORAN. Thank you, Mr. Chairman, for your and Mr. Peterson’s interest in this topic.

I believe that our subcommittee and its members have reviewed

and paid attention, monitored both the activities at the Exchanges

as well as the CFTC’s regulatory abilities, and we look forward to

continuing that as we continue the process of trying to reauthorize

the Commodities Futures Trading Commission Act and keep Commissioner Lukken’s paycheck continuing.

I appreciate the conversation we have had this morning. This has

been interesting and enlightening. I want to ask just a couple of

questions. One is very specific, and one is more broad for my understanding.

The specific one is about MTBE and the change to ethanol. Dr.

Newsome, you testified—I guess both of you really testified—that

there is upward pressure on the price of fuel as a result of that

transition; and you put that number, Dr. Newsome, at about 15

cents. Is there any analysis that would predict when the pricing of

gasoline futures contracts will no longer include that premium that

is there because of the uncertainty of the transition?

Mr. NEWSOME. We have not done that analysis to date, so it

would be very difficult for me to give you a specific answer. But we

do base that difference on hard numbers.
27

In October 2005, we started listing a contract that included ethanol to phase out of the MTBE contract that we currently trade toward the ethanol contract. So, currently, we are listing both contracts for trading at NYMEX. We have roughly 125,000 contracts

of open interest in the old unleaded contract; and we have roughly

45,000 contracts open interest in the new MTBE contract.

The New York Harbor, where our delivery point is, has pretty

much finalized their transition from MTBE to ethanol. So we certainly think that is going to start the process of seeing the two

prices come together. But currently in the trading of both we see

between that 12 and 15 cents differential at this time.

Mr. MORAN. Would either of you have an opinion as to the suggestion that there is a significant shortage of ethanol? Obviously,

your testimony is that so much of what we are dealing with here

is related to supply and demand. It is the market forces at work.

Ethanol has become in some quarters the scapegoat for high energy

prices because of lack of ethanol. Does that allegation have validity?

Mr. NEWSOME. That is not something that I have looked at or

could comment specifically about. What we have looked at is how

the current supplies are utilized and the differences in transportation and blending and that added cost from that component that

the industry is bearing at this point. The fact is there are real differences in how it has to be transported, how it has to be blended.

Those methods are more costly than the current methods with

MTBE.

Mr. MORAN. Your 15 cent number is based upon those factors,

not upon an issue of whether there is adequate supplies of ethanol

based upon pricing.

Mr. NEWSOME. That would be my assumption, yes, sir.

Mr. MORAN. Commissioner, anything?

Mr. LUKKEN. We agree with Jim’s assessment. The difference between the two futures contracts, the current gasoline product and

what is expected after this transition is about 15 cents. As you

noted, the futures markets really provide us no information beyond

the fall price that you mentioned; and we will be closely following

that. But, as these transitional issues resolve themselves, hopefully

the expectations of the markets will bring that premium down.

Mr. MORAN. Thank you.

Let me ask a broader question for my edification. A trader is a

speculator unless they have a commercial need for underlying product; is that correct?

Mr. NEWSOME. Correct.

Mr. MORAN. My understanding is that if you are not a commercial trader—in other words, you are a speculator—then you will

have a spec limit imposed upon your trading activity. And I want

you to describe for me how that spec limit is established, what authority there is for that, how that spec limit is arrived at. Are they

changed on a regular basis? Would you describe for me the nature

of a spec limit?

Mr. LUKKEN. I will start.

The Act, as provided by Congress, says that an exchange shall

impose speculative or accountability limits as they deem necessary

in order to prevent congestion or manipulation. That is one of the
28

core principles that each exchange has to abide by. In doing so,

most exchanges do on physically delivered products have spec limits that they, based on historical statistical data, find out what the

proper levels might be in order to ensure convergence during the

time when cash and the spot futures price converge. Again, we

work with the exchanges on this, but this is something that our Act

delegates to the exchanges to set in the particular amounts.

Mr. NEWSOME. It is an ongoing dialog with the Commission with

regard to what those appropriate levels might be.

First of all, there are position limits across the board whether

you are a commercial or whether you are a speculator. The speculator position limits are tighter. The commercial participants have

the opportunity to get exemptions on those limits if they can prove

that they have the ability to either take or make delivery of the

underlying commodity. So there is much more flexibility on that

side of the equation.

With regard to the speculators, they have general position limits

that regard to their positions throughout the curve or the contract.

As we start coming toward an expiration the last few days of an

expiration, pushing the speculators to get out of the market because they have no ability to take delivery or make delivery, those

limits get smaller and smaller and smaller as we move towards expiration.

Mr. MORAN. Dr. Newsome, it is nice to have you have back here

in front of our committee in 1300. Commissioner Lukken, we have

always appreciated the relationship that our subcommittee and

this full committee has had with you and your willingness to come

and testify and provide us with information. Thank you both.

Thank you, Mr. Chairman.

The CHAIRMAN. I thank the gentleman.

The Chair now recognizes the gentleman from Washington, Mr.

Larsen.

Mr. LARSEN. Thank you, Mr. Chairman.

I want to thank you, Mr. Chairman, for this hearing. I have a

couple of comments and a couple of questions.

Dr. Newsome, you say a more difficult road lies ahead for us presumably about gas prices; and you mention a couple of outstanding

factors in your testimony and just a quick note on China in tracking a lot of what takes place there. China’s plan is to increase their

per capita income from $1,700 a year per person to $3,400 per year.

That means more folks with China with more money to spend on

a variety of things, including the 30,000 or so cars manufactured

each month in China as well. So the increase in demand for gas

and oil is going to be there as well as in India.

You mention reduced refining capacity. As representative of a

district with the four refineries north of California on the west

coast, the only four, I can speak to the fact of what happens when

they go into maintenance mode and shut down or slow down, as

well as their current transition to low sulfur diesel. Those are critical factors. I would agree with your general assessment. There is

a more difficult road ahead for us.

Both of you have mentioned that, in your opinion, there is no

sign of manipulation in the market. I would agree with you. I

would also, though, like to not just necessarily let you off the hook.
29

I would like for you to describe to us what manipulation looks like.

What do you look for when you look for it, so we can be assured

when we go back and tell folks, well, they told us there is no manipulation. They will say, how do you know? And we can say, this

is what they look for and they are not finding it.

Commissioner Lukken, can you tell us what manipulation presumably would look like, what are you are looking for?

Mr. LUKKEN. Typically, corners or congestions or the typical manipulation case we see involve somebody holding onto a large position at expiration of the contract, when their position is larger than

the rest of the marketplace and they are able to exert influence on

the prices as those positions have to be potentially delivered upon.

So we have closely followed—and again we talked about spec limits and other ways that we sort of step down as these contracts expire to ensure that the prices with cash and futures converge. So

we are constantly—it is mainly a control issue of large traders and

expiration month that we look for.

But there are a variety of other ways that we have in the overthe-counter markets looked at false reporting are different indexes

around and taken aggressive enforcement actions against that type

of manipulation that might be broadcast out into the public marketplace outside of the futures market but that influence the futures markets. So those are the cases that we closely follow.

Mr. NEWSOME. I would just add to that. I think certainly Walt

is correct. We look at historical trends, price differences between

different products. We look at that every day to make sure that

stays at least at a historical or traditional balance.

The reality is if a price attempts to get out of line, we hear it

from the marketplace and we hear very, very quickly that something is awry. You guys need to look or you need to talk to specific

market participants.

Mr. LARSEN. I am sorry, when you say you hear from the marketplace, does that mean you are monitoring a price or literally

somebody tells you?

Mr. NEWSOME. Somebody tells us. Snitching. We hear loud and

clear.

The reality of the way the markets work itself protects against

manipulation because a number of you have been to exchanges and

you have seen the pit and they are very competitive. You have got

several hundred people in the pit doing business either with each

other or against each other. And if somebody tries to take a price

in a direction that the fundamentals do not support, there is somebody standing next to them or across the ring ready to take advantage of them at great economic detriment to the person trying to

move in an unnormal manner. So I would say that the structure

of the marketplace itself is the first offense.

And then, second, we have a number of ways that we monitor

both humans—the cameras that I talked about. But I think, more

importantly, we have very sophisticated computer systems that

look at trading patterns, who they are doing business with, and we

monitor those every day to study for anomalies and look for anything out of the ordinary.
30

So, like I said earlier, I cannot give you 100 percent assurance,

other than to say that we do everything we can to make sure that

the market operates fairly.

Mr. LARSEN. Specifically to your market and your role at CFTC

that helps me then say more than ‘‘I know because they told me.’’

it helps me understand exactly what you are looking for and helps

me to explain to folks. I appreciate that.

Thank you, Mr. Chairman.

The CHAIRMAN. I thank the gentleman.

The gentleman from Minnesota, Mr. Gutknecht, is recognized.

Mr. GUTKNECHT. Thank you, Mr. Chairman.

Let me, first of all, say that I am a believer in markets. I am

an auctioneer, and what you do every day is really an ongoing auction. I have described this to my constituents before that here in

Washington we change laws and we amend laws but there is one

law that is really hard for us to change and that is called the law

of supply and demand. So I do understand that and I admire much

of what you have said and I think you do the best you can every

day to make sure there is not a manipulation of markets, at least

that falls under your purview.

Let me clarify a couple of things. First of all, I know that was

not your intent and it is a follow-up to what my colleague from

Kansas talked about, and that is there has been a tendency by

some of the people in the oil industry to blame ethanol for what

is happening today. I just want to make it very clear that we have

doubled the production of ethanol in the last 5 years. If we had not

done that, I do not believe that oil prices would be cheaper. I honestly believe they would be higher. We have doubled the production, and we will double it again.

Then we hear from the oil companies, well, the problem is refining capacity. Let me remind everyone here that in the last 5 years

we have built 53 new refineries. They are called ethanol plants. We

are currently building 39 more, and there are 40 of them on the

planning stages. So I really believe that renewable fuel long term

is actually helping.

Right now, I will admit—and, frankly, we probably should have

had someone from the Energy Information Office who could give

better information about right now what is the bottleneck and

what is the problem relative to ethanol. But I think we have to be

careful to say that ethanol is the problem. I think ethanol long

term is part of the solution. It is part of the solution today.

I want to clarify something else, because we are hearing this

from the oil industry, that you cannot put ethanol in the pipelines.

That is simply not true. They pipe ethanol in Brazil, and Brazilians

are not smarter than we are. The problem is the technology they

use to plug one commodity to the next. In other words, if they have

been shipping diesel fuel, they use a water plug to differentiate between the diesel and the gasoline. Well, that water plug does not

work with ethanol because it will mix with the alcohol. But that,

it seems to me, is a relatively simple technological problem if the

oil industry wants to solve that problem. I do not think they do.

I think there is a difference of opinion in terms of the oil industry. I just want to be very careful, though, because we hear this

from some of the folks on the Intelligence Committee. It is a simple
31

statement, but I think it applies to what we are talking about here

today. They say that absence of evidence does not necessarily prove

evidence of absence, and what that means is just because you do

not have evidence that there is manipulation of markets does not

necessarily mean that it is not happening.

I think there are three terms we should be concerned with in this

committee and what you do every day. One of them is speculation.

And I think one of you said something to the effect, and I don’t

want to misquote you, but you said that speculators play an important role. Well, that is a little hard for a lot of our folks back home

to really understand and perhaps even to swallow, but I do understand speculation. It happens every day in all kind of markets, and

I think we can deal with a certain amount of that. But the second

term is manipulation, and that is what we are really concerned

about. But the third term we have not talked about today that I

think is extremely important, and that is concentration.

Let me ask you, you said that 75 percent of the contracts at

NYMEX, for example, are contracts that are initiated by producers.

How many producers are there?

Mr. NEWSOME. Hundreds, and they represent all the segments of

the business, from production companies to refineries to wholesalers, groups of retailers. It is numerous.

Mr. GUTKNECHT. Let me go back one step. How many big oil

companies are there today?

One of the things we seen—and I must admit I am more of a

Teddy Roosevelt Republican and we have allowed too much concentration in my opinion. You took two great big companies, Exxon

and Mobil, and put them together. What the consumer got out of

that transaction I do not know. But we now have a very small

handful of megacompanies who control the production. They are

not interested in lower prices in oil. They have a vested interest

in driving oil prices higher. Would you not agree?

Mr. NEWSOME. I certainly cannot speak for the oil companies,

but, yes, there is no doubt that there has been a decrease in the

number of the major oil companies. All of those except ExxonMobil

trade on our exchange. ExxonMobil does not trade in the futures

market to hedge risk.

Then there are numerous middle-tier energy companies around

the world that use the markets as well.

Mr. GUTKNECHT. I want to make it clear to the members that I

believe that renewable energy is not part of the problem. I think

it is part of the answer.

I also believe that we need to be very careful when we look at

concentration right now, when you have very large companies that

control large amounts of the overall production; and it strikes me

that they have shown little interest in expanding their production

or their refining capacity. While we see in the renewable fuel industry we are building hundreds of plants and they are all independent and they all compete with each other. So we do not have

the concentration problem in renewable fuel. So I think, particularly for benefit of this committee and the folks who sit on this

committee, we ought to make it very clear that we think that renewable fuel, while it may in the short term be causing some problems out there, in the long term, if the oil companies will work
32

with us, they will be a very important part in keeping our energy

prices down.

I yield back.

The CHAIRMAN. I thank the gentleman for his observations.

The gentleman from Tennessee, Mr. Davis, is recognized.

Mr. DAVIS. Mr. Chairman and Mr. Peterson, I too, appreciate the

opportunity to be here today in the hearing that is being held.

So often, a lot of the folks that I represent really feel that there

has been a lack of oversight on many of the issues in this Congress.

I tend to have to agree with them. Sometimes, as a sophomore in

my second term, I, too, am disappointed in the lack of oversight.

And, quite frankly hearings, not investigations and not special

prosecutors but actually a hearing such as this on many of the

issues that obviously we are talking now, about the markets and

whether they are being manipulated by those who have deep pockets, and there obviously must be that concern.

I have traveled through my district, 19 of the 24 counties. When

I look at the automobiles that many of the folks are driving and

the factories that pay $7 an hour or $7.50 an hour and I see one

or two really pretty cars, I realize who owns those; and I also realize those who are driving the other automobiles that they are lucky

to spend $7 or $8 that morning to buy the gasoline that is required

for them to go to work. For some reason, I just have a conscience

that really makes grieve as a result of that.

But I also know that in this country we are capable of solving

any problem, and I believe we will solve this one. It probably will

be painful. It probably will continue to be painful for many of the

workers who have low earnings in much of rural or urban or metropolitan America, and those folks we really need to have some

concern for and certainly hope that this Congress will address the

issue.

Perhaps if we go back to the mid to late 1970’s after the wars

in the Middle East and the battling of the OPEC nations that had

some control of the amount of production that we have had—I can

recall in the 1970’s that a service station would open at 8 o’clock

and close at 4 o’clock and their allocation had already been sold.

I also know there were times that, even though I may have needed

more than the 10 gallons of gasoline, that is all that the service

station, even though he was my dear friend, would allow me to

purchase.

So I realize back in those days, even though it may have been

created, there was a shortage of gasoline for automobile consumption and for workers to use to get to and from work. I know today

that the only thing there is a shortage in is the hip lettuce, that

is, money in the pockets of working people, the green cash that is

used to pay for gasoline.

Because when you drive up to a service station, it is open 24

hours a day now, in many cases, and there are several pumps and

people waiting in line to buy the expensive gasoline to get to and

from work. I know without the markets we might be paying more.

Quite frankly, I applaud the opportunity for us to have markets

that we cannot necessarily invest in but certainly the dollars that

are made available to where it will continue to keep energy available for working men and women.
33

But I want to mention several things.

I watch the debate on the floor, and I hear Democrats blame Republicans, and Republicans blame Democrats, and that seems to be

a good thing to do. My folks back home are saying, I do not care

whose fault it is. Can’t you all get together and do like the folks

in Brazil? Aren’t we any smarter than the folk that live in Brazil?

What is wrong with America?

I remember Jimmy Carter during those days in the 1970’s propose a comprehensive energy price. And because gasoline or oil

prices dropped back to about 7 or $8 a barrel, which means about

20 or 25 cents a gallon for raw crude, now it is costing us a dollar

and a half plus. I realize that we probably converted back to buying

fossil fuels because it was cheaper on us. We have reached a new

level in this country where we have got to use our ingenuity, where

we have got to use our intellect and the technology we have in conservation, alternatives and other areas.

I defy those who say that the environmentalists are causing this

because it is the lack of refineries in this country. We have passed

all kinds and joined all kinds of trade agreements that I think in

many cases are unfair, and there is not a level playing field for

American producers and workers. But if in fact we are able to do

production with corporate America in other areas of the world, I

am dumbfounded as to why we are not able to build a refinery

where there will be no environmental issues in Mexico just south

of us. Because over 50 percent of what we use in crude oil today

comes from this hemisphere. And it boggles my mind to think that

there is anyone, Democrat or Republican, that would say the refineries capacity is what is creating the situation or environmentalists

are.

I know you can go just south of the Padre Island in Mexico, labor

is cheap, no environmental issues. You go just south of San Diego

and Tijuana, labor is cheap, no environmental issues. I just believe

that there is a larger problem that we are facing today than just

trying to pick out one or two issues and blame someone else for it.

For me, to the oil companies who had a hundred some billion dollars in profit last year, just please invest $4 billion in about four

different refineries in Mexico where some folks maybe can go back

and get a good-paying job that they are getting here in this country, and that will cost you $6 billion of the $113 billion that you

earned last year, and America could be happy again. That is the

real problem. Then we solve that problem.

The question I want to ask you—but I guess I do not have time

because that light is flashing red at me. When I stop someplace

and ask for directions, I want a destination, I know the destination

I am going to and I ask for the way because I am lost and I am

looking to get there. I guess what I am asking you, Commissioner,

are there any areas of enforcement or regulations that you feel

could help reduce the cost of fuels for the average working families

in this country?

Mr. LUKKEN. Well, again, we closely supervise one of the factors

that are involved in the price of gasoline, so our efforts to prevent

any type of manipulation through our surveillance, deterrence efforts, speculative limits, in my view, make sure that the markets

work properly; and if they were not working properly there may be
34

artificial prices that may contribute to the price of gas. So I do believe our efforts have helped make sure that markets are working

legitimately.

Those forces of supply and demand, as you mentioned, are there

to bring price discovery to that marketplace. Certainly if all else

fails we have our enforcement arm ready to police those actions

and bring civil penalties against anyone who wants to manipulate

the wholesale price of gasoline, and we are ready to take action.

Mr. DAVIS. I thank the gentleman.

The CHAIRMAN. The gentleman from Louisiana, Mr. Boustany, is

recognized.

Mr. BOUSTANY. Thank you, Mr. Chairman.

Gentlemen, thank you for your testimony. I really appreciate it.

It has been very informative.

Coming from Louisiana, I have some understanding of the complexity of the energy markets. I have somewhat of a specific question that I want to address. We have sort of talked around it some

today. Commissioner Lukken, for instance, in your written testimony I read, managed money traders, including hedge funds, are

treated as noncommercial traders. And you state, as a group, they

are a significant but a minority portion of the noncommercial positions in both gasoline and also crude oil futures.

Is there sufficient transparency in this arena for you to ascertain

that there is no commercial interest and do you need some additional tools here? What challenges do you face as you approach this

group?

Mr. LUKKEN. Well, when somebody comes into our marketplace

as a trader, they have to fill out a series of forms to let us know

more information, more transparency about what the trader is trying to do.

Again, we can categorize these folks as commercials, those that

are in the business or they are trying to hedge their positions, noncommercials, those that are involved with speculating. We have

some that are swap dealers that are doing some of this business

over the counter and then bringing their net risk positions to the

market. So we learn as these participants come to the markets

quite a bit of information about who is participating in these markets.

As you said, the largest participants in our markets are the commercials. Those that are actually involved in production agriculture

in the grain markets or maybe in the supply chain of energy markets, in the energy futures markets, that is the biggest percentage;

and these are the folks that normally are the ones hedging their

position. They have risk and price exposure and have price fluctuations in the market, and they want to hedge that.

So everybody else goes into this sort of miscellaneous speculation

category. But we as an agency are able to refine that even further

into hedge funds very specific data so that we can closely follow

that type of information.

Mr. BOUSTANY. So you have historical data, you have statistical

data, and, of course, all the information technology at your disposal

to monitor this group.

Mr. LUKKEN. When I say transparent, it is transparent to us as

a regulator. It is not transparent necessarily to the markets. Too
35

much transparency could allow traders to discover other traders’

positions, and then they would be fleeing these price discovery

markets, and we do not want that. As regulators, we want to be

able to see the entire marketplace, who the participants are; and

I think NYMEX in its SRO function does the same thing.

Mr. BOUSTANY. That was the point of my question, was to determine what is that balance. Because certainly these are the tools

you need to look for market manipulation.

Dr. Newsome, do you have anything you want to add to that

question?

Mr. NEWSOME. I think Commissioner Lukken did a good job of

explaining it. Certainly when you look at the regulated markets

such as NYMEX, they are completely transparent. Prices are transparent on a real-time basis for the whole world to see what is going

on in the market. Obviously, those who are behind those positions

are transparent to us, transparent to the CFTC so that they can

monitor and protect against anti-manipulation.

But, as I said earlier, we are but one piece of the whole pie. We

are the regulate-transparent component of that pie, and there are

other segments of the trading community of which we do not have

that same kind of transparency. So I think those are some issues

that the committee may wish to take a closer look at as time goes

on.

Mr. BOUSTANY. I appreciate your answer.

I yield back, Mr. Chairman.

The CHAIRMAN. I thank the gentleman.

The gentleman from Hawaii, Mr. Case, is recognized.

Mr. CASE. Thank you, Mr. Chairman.

Obviously, what we are trying to do is to figure out why prices

have spiked up again and again. There is no hurricane this time.

Oil refineries have had this perceived shortage for a long time. The

Middle East has been insecure for a long time. The question of ethanol is uncertain in my mind, using the reasons that you raised,

Dr. Newsome.

I think, focusing on what we are trying to accomplish right in

this hearing, one of the potential suspects that we are trying to get

to the bottom of here is the question of whether the energy futures

and options markets are reflecting market conditions or causing

market conditions. We want it to reflect market conditions, not

cause them. That is the issue of manipulation in which you, Mr.

Commissioner, have said is essentially where we are. We are focusing on manipulation. You have testified not that you do not believe

that manipulation is taking place but that the mechanisms that

you have for controlling manipulation are effective for keeping it to

a dull roar, if I can put it that way.

One of the things in your testimony that I was just curious about

was that you testified since December 2002 you had filed 32 enforcement actions charging 27 companies and 23 individuals in

cases involving natural gas and assessed $300 million in fines. But

did I hear correctly that, in terms of cases that involved crude oil

or unleaded gas, what would be the comparable record in that

area? Did you testify there has been no enforcement action then?

I guess the question is, OK, you talked about natural gas, but let’s

talk about oil.
36

Mr. LUKKEN. In the natural gas markets, a lot of the activity was

over the counter and a lot of those cases that we brought in the

3 years since then have been us using our anti-manipulation authority which extends to over-the-counter transactions. Those cases

in particular were dealing with false reporting where transactions

were being done over the counter and they were reported to a price

index for publication to the public. So our section 9 anti-manipulation authority applies those transactions.

With crude oil, we are obviously exploring its volatility. I mentioned in my testimony that we have 12 open cases currently involving energy cases. Some of those are crude oil. Some of those are

gasoline. So we are constantly trying to find out whether there has

been any type of price aberrations or anti-manipulation activity in

this area.

Mr. CASE. Have there been actual fines imposed for manipulation

in the crude oil, unleaded gas markets during that same period.

Mr. LUKKEN. There may have been fines imposed by the futures

markets because that is where the primary market is, and I will

defer to Dr. Newsome on this, but as far as what we have seen in

the over-the-counter space that we typically use our anti-manipulation authority over, we have not seen anything to date. However,

as I said, we certainly are investigating those areas right now.

Mr. CASE. I guess what I am trying to figure out from a layman’s

perspective is what is so different about the natural gas market

that lends itself apparently to a little bit more potential manipulation or enforcement versus the market that we are trying to get

into right now? Am I missing something there? Is there a ready explanation?

Mr. LUKKEN. I think the natural gas markets had certain index

pricing mechanisms that Platts and other organizations had organized for the over-the-counter products that were outside the futures space. I think crude oil and the gasoline are more of centralized futures markets. There is some over-the-counter business obviously that we can talk about, but primarily, I think that is what

brought our attention in 2000. And one investigation lead to another, lead to another, but certainly we are not closing our eyes to

crude oil or to gasoline and will continue to police those areas.

Mr. CASE. Now one of the areas that somebody that is not familiar with what you do, believes, judging from my layman’s e-mails

and my layman’s communications is information manipulation. You

talked about congestion and corners and that kind of stuff. But

most people that are concerned in this area believe that there is

the purposeful introduction into the markets of false information

designed to cause a market response that they can be prepared for

and take advantage of. Have you seen that in terms of the investigations that you are conducting.

Mr. LUKKEN. Historically, we have seen people who have brought

false information into the marketplace and taken action against

them. A lot of the information comes from the public. USDA, Federal Reserve, BLS and other organizations that provide information

to the public have certain regulations administered by those organizations that regulate when that information is released to the

public. And we have certainly investigated potential leaks of those

cases in the past.
37

Mr. CASE. But that would be manipulation from your perspective

in terms of investigation.

Mr. LUKKEN. If it brought an artificial price, certainly.

Mr. CASE. Final question, one of my colleagues, our colleagues,

is circulating a Dear Colleague for some proposed legislation. The

point that he makes is that the problem is not what we are regulating, but what we are not regulating. The specific point he makes

is that 75 percent of the futures markets in energy is in fact occurring off-market unregulated. And he believes we should expand

your authority to incorporate the regulation of off-market trading.

What is your reaction to that? First of all, is he accurate factually?

Mr. LUKKEN. I believe that may be an accurate number. I will

have to check on that. Our authority primarily is focused on this

centralized marketplace where price discovery is happening. A lot

of the markets that he was referring to are bilateral transactions

that are happening off the marketplace. No one in the public is

really relying on the pricing that coming from those transactions.

If we see a situation that arises in the futures markets that we

may want to discover more information from the over-the-counter

space, we have the ability through special call and other mechanisms to get to that information—to find out what the positions

may be in the over-the-counter market that might be effecting positions on the futures exchanges.

So we currently, we do look at that, and certainly on the enforcement front, our powers are not limited to the futures markets. But

anything that may effect interstate commerce.

So we have used that authority as it effects futures markets to

ensure that prices are not being manipulated.

Mr. CASE. But there are clearly transactions occurring outside of

the normal markets that are not specifically regulated by your jurisdiction; is that correct?

Mr. LUKKEN. That is correct.

Mr. CASE. Do you think that is a problem that could be leading

to some offline manipulation, if I could put it that way?

Mr. LUKKEN. Well, we certainly have the ability to go after it if

we find it. I think, in 2000, when Congress passed the Commodity

Futures Modernization Act, it made the determination that most of

these markets were institutional financial markets not deserving of

the CFTC’s attention and regulation.

A lot of them, a lot of those products also are being run through

regulated companies, through banks, through SEC-registered entities. So I think that the thinking of the President’s Working Group

in 1999 when they made that determination was that those were

sufficiently regulated for their views.

Mr. CASE. Thank you.

The CHAIRMAN. I thank the gentleman. The gentleman from

Texas, Mr. Cuellar is recognized.

Mr. CUELLAR. Mr. Chairman, thank you very much, and thank

you, Mr. Chairman, for having this important meeting and of

course, Dr. Newsome, and Commissioner, thank you very much for

being here with us.

I represent several rural counties in Texas. And as you know,

since 2002, the farm field prices have more than doubled up to 113
38

percent. Since 2002, fertilizer prices are up about 70 percent. That

is a price increase of 10 to 20 percent each year.

Fuel and fertilizer prices and cost for corn run an estimated $124

per acre, for cotton about $70 per acre, the rice about 99 percent

per acre. The impact of rapidly rising energy costs for Texas producers is bad right now. I think this impact will be worse in the

fall when many of these producers use up the fertilizer and fuel

that they locked in last year.

Of course, I am concerned about high energy costs not only for

the urban areas but for the rural areas, like members of this committee, especially when the impact it will have on the productivity

of our farmers and ranchers as they continue to provide America,

Americans with a safe, abundant and affordable food supply.

Yesterday in the Washington Post, the business writer, Steve

Pearlstein asserted that at least $15 of a barrel of crude oil was

due to increased speculation by pension funds and other non-industry investors, as one of the other Members was mentioning a few

minutes ago.

Pearlstein said that, 2 years ago, this group had about $20 billion in the market. Today they have about $150 billion in the market.

Yet, Dr. Newsome, in your testimony, I think your quote was, ‘‘It

was widely yet inaccurate to theorize that speculators can drive up

the market.’’ And I will be the first one to say I believe in the law

of demand and supply.

But still, how would you square your statement, Dr. Newsome,

given our knowledge, and speculative bubbles do occur—let’s witness the crash of the dot coms, and I guess my question to you,

and, commissioner if you want to just add upon this, how are we

going to make sure that we are not seeing any unusual speculative

activity in crude oil and gasoline prices?

And I know what your testimony was a few minutes ago that the

rules are there. The policies are there. You are doing everything

possible. The transparency on behalf of the speculators. But again,

there are certain facts out there, how do we square that together,

and how do we know that there is not something unusual, believing like we all do, in the law of supply and demand? But how do

we know that there is not some unusual activity going on at this

time?

Mr. NEWSOME. I would say a couple of things, Congressman.

One, I don’t know where that $15 comes from. I would like to look

at an analysis of how they come up with that, because personally,

with my experience in the markets, I would find that certainly not

to be the case.

Secondly, with regard to blaming that on speculators, because

speculators to do not have the ability to make or take delivery,

they don’t trade to the settlement price. And the settlement price

is what is used by the marketplace as the pricing benchmark. And

speculators are not active in the market at that point.

So it is impossible for the speculators to have the kind of impact

on a price that this article would seem to indicate.

Mr. CUELLAR. So, how do we get to that point? If the speculators

are not at that point, is it like Congressman Case said a few min-
39

utes ago, that we need to expand a little bit more? Or what do we

do?

Mr. NEWSOME. I think, again, when you look at NYMEX, the

markets that the CFTC oversees, I have a great comfort in not only

the current levels of regulation but in terms of the oversight capabilities of both the exchanges and the commission.

But that is but one piece of the overall energy component. You

have multiple components, the cash market of which is the 800

pound gorilla; the volatility in markets actually occurs in the cash

market. The futures market makes that volatility transparent for

everyone to see through benchmark pricing.

A huge component of the market is the over-the-counter market.

And there have been various arguments since I was at the commission over whether or not that should be regulated.

I continue to believe now as I did then, that that component of

the market does not need direct oversight regulation because you

have got bilateral activity between very large commercial companies, between commercial companies and banks, the price is individually negotiated between the two that shift risks from one to another. That system works very, very well.

And but then, as the markets evolve, you see other things that

come up. The ICE, the intercontinental exchange was mentioned

earlier. That is an area that we have asked the commission to take

a closer look at in terms of that regulatory structure, whether it

should be regulated as a futures market because of the activity

that they are involved in.

So I think the Congress and the commission made the right

choices in the year 2000, but we do have to admit to ourselves that

this market is changing and evolving, and because of that, the

work of this committee and the commission is very, very important.

Mr. CUELLAR. And I know I think every Member has said, every

time we go back to our districts, besides immigration reform, this

is the other issue that has come up. And I know sometimes people

want a simple answer. They want a magical, this is the cause. But

there are so many factors involved from the supply of crude oil to

distribution and everything, so, any suggestions that both of you all

can give the committee, we would really appreciate it. Because we

know there is no magical solution out there, but anything you could

give us we would people it. We thank you.

Mr. MORAN [presiding]. The gentleman’s time has expired.

The gentleman from Georgia.

Mr. SCOTT. Thank you very much, Mr. Chairman. I want to ask

my question relative to a direction which I believe we need to go

which much emphasize has not been placed upon and that is this:

2 years ago, John Thompson of ExxonMobil made the statement

that we are dealing with a very serious resource of diminishing returns.

He said 3 years ago that, each year, we are losing 6 percent of

our capacity of producing oil. With that, knowing that, we are losing that capacity, knowing that we are dealing with a diminishing

resource. He also said that, within 15 years, two-thirds of the

known oil reserves would be in the Middle East, a very volatile,

very dangerous section.
40

My point is this, that given the fact that we are dealing with a

diminishing resource, given the fact that everything on the horizon

where we can look says the wrong thing for us to continue to do

is to base our future energy needs on oil—and a recent report on

CNN reported that Brazil is moving in more of the right direction

with ethanol, that in fact, they are very successful and fueling their

economy, fueling their automobiles, with a very renewable product

that they can continue to grow and grow, and that is sugarcane.

But yet here in the United States, there is this tug of war; there

is this schizophrenic attitude towards what we can do.

And I just want to hear from you two gentlemen because all the

other questions I wanted to ask have already been asked. So I

would like to get from you, why are we in this schizophrenic attitude involving ethanol, and particularly given the fact that our

plentiful production of corn, which could be the most basic element

of it, especially in light of what Brazil is doing?

Why can’t we do what they are doing? And why are we not putting more emphasis on getting alternative fuel needs as opposed to

continuing down this road of pursuit of oil which is a diminishing

resource at best?

Mr. NEWSOME. Congressman, I would simply say that prices are

the best drivers of economic direction. And I think the prices that

we are currently experiencing are going to push us exactly in the

direction that you are suggesting.

Alternative fuels, as you can tell, my accent didn’t come from living in New York very long. So I am sensitive to the issues raised

by this committee, because my Dad is a farmer and is experiencing

the difficulties that all of us have talked about.

But I think the price pressure that we currently see is going to

move us exactly in the direction you suggest with regard to more

conservation, alternative fuels and the utilization of new technology.

For example, one of the largest known but relatively untapped

crude supplies in the world is in Canada with the capability of producing 10 million barrels a day, which is as much as we get currently from Saudi Arabia. But it is intertwined in sand and minerals, and it is very difficult to refine and to get the usable crude

out. The cost of doing so today is 20 bucks a barrel just to refine

it to a component that is useful.

So without prices today, nobody had the pressure or the desire

to try and develop that technology. But that technology is currently

being worked on. So I think we are going to see a number of areas

pushed by the current economics.

Mr. SCOTT. Do you see, either you or your regulatory agency, but

do you see where more regulation will be or can be a factor in reducing the price of oil?

Mr. LUKKEN. I think as far as regulators, we have to be tailored

in our approach. The appropriate amount of regulation, smart regulation, if we see a problem that needs to be addressed, we need to

try to administer the right amount of medicine for that problem.

And that has really been the approach that we have adopted since

the CFMA’s passage in this committee in 2000.
41

So I couldn’t say, as a general rule, regulation will drive down

gas prices. But we are certainly there when needed, when the risks

to the public occur.

Mr. SCOTT. Could over-regulation drive it up as well? For example, one immediate issue is the Intercontinental Exchange.

That is being bandied about now. There is some concern that it

needs to be regulated by United States regulation.

My feeling is that might be a particular case where we ought not

to regulate, intercontinental, that it is being regulated enough already by the European regulation. I think the British are regulating it.

Where do you come down on that, particularly in view of the fact

that there appears to be some sentiment in the Senate to regulate

ICE?

Mr. NEWSOME. Let me say up front that my viewpoint is probably a little bit biased towards that answer.

The way we look at it, the reason we have asked the CFTC to

review this is that when ICE took advantage of the foreign no-action letter, we thought it was completely legitimate and there

was—the argument is, are they still foreign exchange? And, closing

the floor, moving all the trading mechanisms to Atlanta and operating them under a different regulatory scheme does create competitive issues.

For example, we have hard position limits required by the CFTC,

ICE doesn’t have those hard position limits. So in terms of the

speculative trade, we have numerous market participants who

bump up against those limits on NYMEX and then are forced to

quit trading or to move to the Intercontinental Exchange which has

no hard limits.

So it creates competitive issues. We are simply asking the commission—and they are responding—to look at whether or not ICE

is, in fact, a foreign exchange or a domestic exchange. And I think

the answer to that question will then drive the appropriate regulatory response.

Mr. SCOTT. But don’t you think it would place a tremendous unnecessary burden on ICE?

Mr. NEWSOME. I think if they are trading futures contracts that

are the same contracts that we trade at the New York Mercantile

exchange, for all the reasons that we are regulated to protect the

marketplace and customers, I think it seems they should operate

on a level playing field with us.

Mr. MORAN. The gentleman’s time has expired. The very anxious

gentleman from California is recognized.

Mr. BACA. Yes, I have been anxious, and I think there are 30

other people who asked the question, but I still think it is very important. First of all, I want to thank the chairman for having this

and our ranking minority member, Collin Peterson, for having this

important hearing, especially as it pertains to alternative fuels as

well as many of our constituents in other areas are very much concerned with where it is going, and they are asking us, what is it

you are doing about the gas prices? It has escalated to a point

where they feel that Congress has got to do something. And it has

impacted all of us.
42

So I thank the chairman, and of course, the minority member for

having this hearing.

My first question pertains to Mr. Lukken. In your testimony, you

described that 3 million-some penalties have been imposed, but yet

when we look at these penalties that have been imposed on many

of these companies right now, my question is, when you look at,

and this is what the consumers and others are very much concerned, when you look at the report by the Washington Post, it has

ExxonMobil reporting $8.8 billion in profit this quarter. That is the

fifth highest quarterly profit reported in the history. And it is very

appalling to consumers and others to say, how is it that our gas

prices are going up? How is it that these reports of quarterly reports such as Exxon has made $8.8 billion? Yet when you look at

the penalties of only $3 million in penalties towards everyone? It

seems it is a small amount of dollars.

What can be done in reference to these particular fines? Can we

increase the fines to have equal value of the profit? Maybe that is

something we have to do to really get these individuals to enforce

what needs to be done and really address the problem.

Mr. LUKKEN. Well, our penalties, as you reference, are set by

statute, where we have some limitations. I think it is actually

#130,000 per violation currently. And so we are somewhat limited

by statute of what we can do.

Mr. BACA. Does that mean we have to change the statute?

Mr. LUKKEN. I think there has been some discussion in Congress

about amending our penalties.

Mr. BACA. Maybe that is the direction we have to do. Our consumers are saying, do something, so if we change the statute then

maybe some of these companies will look at what they are doing

right now, and how they are gouging a lot of our consumers.

Mr. LUKKEN. I think that has been, in order to recognize the

weight of manipulation and how harmful that might be to the public there have been some discussions among this committee and

others about changing penalties.

Mr. BACA. You have indicated you have 12 open cases right now

especially as it pertains to crude oil or gasoline.

When do you think these cases are going to be closed? Because

that has an impact in terms of any action in terms of what is going

on right now and what our consumers are asking for is immediate

action so this way we don’t continue to escalate the gas prices, and

can we do it if they are being investigated?

Is there a possibility of putting a freeze in terms of increasing

the prices until thee cases are even heard?

Mr. LUKKEN. Again, this is dealing not at the retail pump level

of gasoline but those involved in the futures markets’ trading of

gasoline or similar derivatives.

I can commit to you that we are working as fast as we can to

bring these cases to fruition, to bring them to court or to settle if

that is appropriate. So we will try to keep this committee apprised

of the investigations and how those are going.

Mr. BACA. It would be nice if we had a freeze on them, so this

way at least our consumers wouldn’t be effected.

Mr. Newsome, what would happen if NYMEX were to suspect

any improper activities in the market?
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Mr. NEWSOME. Well, if we suspect it we would immediately start

an investigation. Based upon the results of that investigation, we

could fine, remove the person from the marketplace, any level of

numerous sanctions against either the company or the individual.

Mr. BACA. That is why, again, I asked the questions some of

them don’t mind the fines because the fines are smaller than the

profit margin. So I think we have to look at the statute of increasing it to make it equivalent to where it would be painful so this

way our consumers aren’t effected.

Mr. BACA. How rare is it to find market manipulation in this setting?

Mr. NEWSOME. I think it is very rare because of the protections

we have in place, it typically doesn’t get to the point that the market actually becomes manipulated. We have surveillance mechanisms, both physical and electronic that are utilized, and at the

earliest sense of any aberration in the market, it becomes detected

and stopped at that point.

Mr. BACA. Mr. Lukken,does over-the-counter gasoline markets

operate in a similar manner to natural gas market, question No.

1? And has CFTC brought similar enforcement actions against

OTC gasoline markets?

Mr. LUKKEN. I can’t speak to the particulars of the over-thecounter gasoline markets, and structurally, how it is in comparison

to natural gas. However, I would say that we continue to look at

the situation that we learned from the natural gas market and applying to these other energy over-the-counter transactions. If we

see similar types of false reporting or manipulation, we will bring

action and the penalties will be severe.

Mr. BACA. Regarding the special call for position data, do you

generally limit them to participants who show up in the large trader reports, which is question No. 1 and what signs would trigger

a special call on a participant who is not a large trader?

Mr. LUKKEN. Normally, the special call authority is focused on

participants in the futures markets, the positions that we see them,

that may cause concern, and our surveillance economists may need

more information. So we are able to, through the special call authority, ask for other positions in the cash market or over-thecounter positions that may be the motive of why they may be trying to manipulate the futures markets. And it has proven successful in the past.

Mr. BACA. When CFTC staff contacts large long- and short-sighted traders to obtain information about their intentions, delivery capabilities and et cetera, what ensures that traders are honest and

upfront about their answers? And are there penalties for lying or

providing misleading information to CFTC market surveillance

staff in this manner, as well?

Mr. LUKKEN. I think most of the people that we contact are

known entities in the markets. Certainly, we have close relationships with the exchange’s SRO functions, and they know their market participants as well and who has the ability to receive and provide delivery.

So it is a dialog that we have not only with the exchanges but

also the end users to determine, and if we need to, we will send

people out to see the facilities that they claim to have. But nor-
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mally, these are known entities, and we work with exchanges on

making sure that that occurs.

Mr. BACA. I know that my time has run out, but since I am the

last one here, I guess I can keep asking the questions until I get

the gavel hit.

Mr. MORAN. Briefly you can.

Mr. BACA. You mentioned that, as required in the energy bill, the

CFTC and the Federal Energy Regulation Commission has executed a memorandum of understanding with regard to information

on special market participants.

Are the CFTC at first cooperating at this time regarding your

prospective activities in the energy markets?

Mr. LUKKEN. Yes, we are. And not only on the enforcement side,

but also on the surveillance side, they often come to our surveillance briefings on Fridays to get an update on what we are doing

in the futures markets and provide us an update on what is happening in the cash markets.

Mr. BACA. Thank you very much.

Mr. MORAN. You are very welcome. Let me ask just a follow up

question. One of the things that happened in the 2000 Modernization Act was to give legal certainty to transactions in exempt commodities which include energy contracts traded between eligible

contract participants, and I think it was Mr. Case and maybe you,

Mr. Lukken, had a discussion about those contracts.

Mr. Newsome, has NYMEX analysis shown any artificial increase in price, in oil contract trading since that legal certainty was

granted in these off-exchange contracts?

Mr. NEWSOME. We don’t have an ability to monitor the off-exchange contracts. So it would be very difficult for me to answer

that, Mr. Chairman.

Mr. MORAN. Mr. Lukken?

Mr. LUKKEN. We have not seen any type of problem from the

2(h)(3) markets, the exempt market. And let me just be clear because I think there has been some confusion. The exempt marketplace, which is based in Atlanta, also owns as a subsidiary the ICE

Futures regulated market space, which is based in London and separately run by a board of directors, compliance staff based in London as well.

That is where the crude oil is being traded currently.

The exempt market is primarily natural gas and has no gasoline

and very limited crude oil if at all. So as far as our topic of today,

really the 2(h)(3) markets don’t have any direct impact on crude oil

prices or gasoline prices.

Mr. MORAN. Thank you for that clarification.

Let me ask either one of you, Commissioner Lukken or Dr.

Newsome, do you have anything that you would like to add on the

testimony you previously made, particularly in response to any

questions? Let me give you that opportunity.

Mr. LUKKEN. I think what I said speaks for itself, thank you.

Mr. MORAN. Doctor Newsome?

Mr. NEWSOME. Just appreciate the opportunity to be here, Mr.

Chairman, and to continue our productive dialog.
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Mr. MORAN. You are very kind. I appreciate the opportunity to

hear what you have to say. And this committee will then conclude

its work for the morning.

Without objection, the record of today’s hearing will remain open

for 10 days to receive additional testimony and supplementary

written responses in regard to any witness for any question proposed by any member of this panel.

Mr. MORAN. This hearing of the Committee on Agriculture is now

adjourned.

[Whereupon, at 12:30 p.m., the committee was adjourned.]

[Material submitted for the record follows:]
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STATEMENT OF JAMES E. NEWSOME

Mr. Chairman and members of the committee, my name is Jim Newsome and I

am the CEO of the New York Mercantile Exchange (NYMEX or Exchange). NYMEX

is the world’s largest forum for trading and clearing physical-commodity based futures contracts, including energy and metals products. We have been in the business

for 135 years and are a federally chartered marketplace, fully regulated by the Commodity Futures Trading Commission (CFTC) both as a contract market and as a

clearing organization. On behalf of the Exchange, its Board of Directors and shareholders, I thank you and the members of the Committee for the opportunity to participate in today’s hearing on the futures market and gasoline prices.

NYMEX provides an important economic benefit to the public by facilitating competitive price discovery and hedging. As the benchmark for energy prices around the

world, trading on NYMEX is transparent, open and competitive and heavily regulated. Contrary to some beliefs, NYMEX does not set prices for commodities trading

on the exchange. NYMEX does not trade in the market or otherwise hold any market positions in any of its listed contracts and, being price neutral, does not influence price movement. Instead, NYMEX provides trading forums that are structured

as pure auction markets for traders to come together and execute trades at competitively determined prices that best reflect what market participants think prices will

be in the future, given today’s information.

There is a strong beneficial and interdependent relationship between the futures

and the underlying physical commodity or ‘‘cash’’ markets. The primary motivation

for using the futures market is to hedge against price risk in the cash market. Price

volatility drives many into the futures markets. Many prudent business managers

rely on the futures market to protect their business against price swings in the cash

market.

Futures markets provide a reference point for use in executing off-exchange trades

at competitively determined prices. An understanding of the NYMEX market, its

pricing mechanism and the relationship between the futures price and the cash

price will provide useful instruction and clarity to what is often perceived as an esoteric area of the broader financial marketplace.

OVERVIEW

Futures markets fulfill two primary functions: (1) they permit hedging, giving

market participants the ability to shift price risk to others who have inverse risk

profiles or who are willing to assume that risk for potential profit; and (2) they facilitate price discovery and market transparency. Transparency involves many factors, including: (1) continuous price reporting during the trading session that is disseminated on a real-time basis worldwide by various market data vendors; (2) daily

reporting of trading volume and open interest; and (3) monthly reporting of deliveries against the futures contract.

Currently, NYMEX’s core energy futures contracts trade by open outcry on the

Exchange floor during the day and during the evening on NYMEX ACCESS’, our

after-hours electronic trading platform. Soon, NYMEX will offer side-by-side floor

trading and electronic trading so that market participants will have the choice during the trading day between executing their orders on the trading floor or on the

electronic screen. Open outcry transactions are executed in a transparent and competitive environment between NYMEX members who are registered futures industry

professionals.

NYMEX’s futures and options contracts are listed and traded by calendar month.

For energy contracts, trading terminates in the month preceding the month of actual delivery of the underlying commodity (if positions are not offset and held

through the termination of trading for that contract month). Consequently, the front

or spot month listed for much of this month has been the May 2006 contract month.

The daily settlement price for each contract month of a listed contract is calculated

pursuant to Exchange rules. The rules governing the calculation of our settlement

price reflect the business judgments exercised by Exchange officials.

By listing contracts that are traded in contract months listed out into the future,

a common convention in the futures industry, our prices at all times reflect the collective consensus of the marketplace as to the future direction of commodity prices.

By contrast, many cash markets of the underlying commodities for our products,

such as for gasoline, are quoted and traded in the cash market as day-ahead products. Consequently, there can be at times significant differences between prices in

our markets and prices in the day-ahead cash market.

NYMEX energy futures markets are highly liquid and transparent, representing

the views and expectations of a wide variety of participants from every sector of the
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energy marketplace. Customers from around the globe can place buy and sell orders

through brokers on the NYMEX trading floor. On behalf of the customers, buyers

announce their bids and sellers announce offers. The price agreed upon for sale of

any futures contract trade is immediately transmitted to the Exchange’s electronic

price reporting system and to the news wires and information vendors who inform

the world of accurate futures prices.

Price signals are the most efficient transmitters of economic information, telling

us when supplies are short or in surplus, when demand is robust or wanting, or

when we should take notice of longer-term trends. NYMEX futures markets are the

messengers carrying this information from the energy industry to the public. The

wide dissemination of futures prices generates competition in the establishment of

current cash values for commodities.

GASOLINE

Gasoline is the largest refined product by volume sold in the United States and

accounts for almost half of the national oil consumption. It is a highly diverse market, with hundreds of wholesale distributors and thousands of retail outlets, often

making it subject to intense competition and price volatility.

NYMEX trades, among other things, New York Harbor leaded and unleaded regular gasoline futures contracts. The New York Harbor gasoline futures contract

trades in units of 42,000 gallons (1,000 barrels). It is based on delivery of petroleum

products to terminals in the New York harbor, the major east coast trading center

for imports and domestic shipments, from refineries in the New York Harbor area

or from the Gulf Coast refining centers.

Average daily trading volume in these contracts has hit record levels in recent

months and prices have been volatile. These market conditions reflect the basic

market fundamentals where there is an imbalance of supply and demand. Tight gasoline supplies due to lack of refinery capacity, compounded by the lingering impact

of Hurricane Katrina, concerns about Middle East insecurity, and more recently the

transition from methyl tertiary butyl ether (MTBE) to ethanol have driven prices

upward dramatically in the cash and futures market.

NYMEX closely monitors the gasoline futures market and increases surveillance

during periods of price volatility. To date, we have found that our markets are behaving rationally and that the market participants acted responsibly in their futures and options trading. More specifically, we have seen no evidence to date to

suggest that the recent price rises in gasoline futures being traded on our markets

are attributable to violative activity.

MARKET ANALYSIS

NYMEX staff monitors the supply and demand fundamentals in the underlying

cash market to ensure that NYMEX futures prices are consistent with broad, ongoing, cash market price movements and that there are no price distortions. Our analysis of the gasoline market has identified three key factors that are contributing to

higher gasoline prices in the cash and futures market: (1) high crude oil prices; (2)

MTBE phase-out; and (3) reduced refinery capacity.

HIGH CRUDE OIL PRICES

Crude oil is the main feedstock for gasoline production. Indeed, according to the

Energy Information Administration, 59 percent of the price of the gasoline is attributable to the price of crude. Consequently, the strength in crude oil prices has led

to higher gasoline prices. Last week, crude oil futures prices reached an all-time

high of over $75.00 due to continued concerns about Middle East security and rising

global oil demand. Chart A (attached) reflects global crude oil prices using the front

month NYMEX Light Sweet Crude Oil (WTI) futures and Brent Crude Oil futures

prices.

MTBE PHASE-OUT

The gasoline market is currently in a difficult transition period due to the phaseout of MTBE, and the related transition to ethanol. As companies eliminate the use

of MTBE and replace it with ethanol, gasoline refiners and importers must adjust

their practices and systems. Ethanol, which is chemically different than MTBE, contains more volatile compounds than MTBE and, therefore, is harder to use in reformulated gasoline in the summertime. In addition, ethanol cannot be carried in the

Nation’s pipeline system, and must be segregated from the wholesale distribution
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system until its addition at the truck rack. Finally, ethanol presents new demand

and supply implications, which must be factored into the pricing of gasoline.

There is a level of uncertainty involved in this transition process as the marketplace adjusts to the new supply situation. This uncertainty typically leads to higher

gasoline prices in the short term. Buyers and sellers have concerns about demand

and supply fundamentals, and the higher costs are then passed on to consumers.

This transition process is now well underway but not yet completed, as the gasoline market begins to phase out MTBE-blended gasoline. Commencing after May 5,

refiners will no longer be required by law to add oxygen to gasoline products.— In

addition, one price survey service, which collects and distributes surveys of prices

of transactions in cash markets, will begin on May 1 to use Reformulated Gasoline

blendstock (RBOB) as the anchor or reference point for gasoline transactions involving a delivery point other than the New York Harbor. Consequently, most energy

firms likely will continue to draw down and use up their reformulated gasoline inventory during the remainder of the month of May. Most market observers continue

to believe that sometime this summer the RBOB product will largely replace reformulated gasoline as the predominant gasoline product in the cash market.

Chart B (attached) shows the wholesale price of ethanol and MTBE in the New

York Harbor area. As you can see, ethanol prices are currently $1 per gallon higher

than MTBE. This large price differential indicates the strength of ethanol demand

as compared to MTBE. The ethanol is then added to RBOB, to make finished gasoline. NYMEX first listed RBOB gasoline futures for trading last October in anticipation of the phase-out of MTBE from the gasoline pool. Chart C (attached) shows

prices for finished RFG (with MTBE included) and RBOB (before the addition of

ethanol). The RBOB price is about 10 cents per gallon higher than finished RFG

(with MTBE), and when the ethanol is added (at a 10 percent blend by volume) the

finished ethanol-blended gasoline is priced even higher, at 15 cents higher than

RFG with MTBE. This accounts for some of the recent price rise in gasoline.

REDUCED REFINERY CAPACITY

Even though no new gasoline refineries have been built in the US in several decades, this imbalance has been mitigated to some extent by higher efficiencies from

existing plants, which have generally operated at a high rate of utilization in recent

years. However, such a high utilization rate also means that when utilization rates

are reduced for any reason, there will be an immediate impact on the availability

of new supplies.

This year, the gasoline supplies have been constrained by lower refinery utilization rates due to heavy refinery maintenance. Some refineries reportedly had delayed maintenance work in the aftermath of Hurricane Katrina to ensure adequate

gasoline supplies. Furthermore, additional refinery work is needed this year to comply with new low-sulfur requirements in diesel and gasoline. The end result is tighter gasoline supplies in the short-term until the higher refinery utilization rates can

be restored.

In the face of these market factors, the NYMEX system continues to work according to design. As intended, NYMEX’s highly transparent, open and competitive market place adds a level of economic stability to the situation by providing a reliable

and well-regulated price discovery and risk management forum.

SURVEILLANCE

NYMEX has numerous surveillance tools, which are used routinely to ensure fair

and orderly trading on our markets. The NYMEX Market Surveillance staff routinely reviews price activity in both futures and cash markets, focusing on whether

the futures markets are converging with the spot physical market as the NYMEX

contract nears expiration. Large trader data are reviewed daily to monitor customer

positions in the market. At the end of every trading day, NYMEX collects the identities of all participants who maintain open positions that exceed set reporting levels.

These data, among other things, are used to identify position concentrations requiring further review and focus by Exchange staff. Any questionable market activity

results in an inquiry or formal investigation. By rule, NYMEX also maintains and

enforces limits on the size of positions that any one market participant may hold

in a listed contract. These limits are set at a level that greatly restricts the opportunity to engage in possible manipulative activity on our markets.

NYMEX maintains a comprehensive audit trail of all transactions executed on the

Exchange. The audit trail includes such data as trade time, executing broker, and

the account number for the beneficial owner of the trade and other data, which can

be used to reconstruct trading activity for investigative purposes.
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In addition to the Exchange’s self-regulatory program, the CFTC conducts ongoing

surveillance of our markets, including monitoring positions of large traders, deliverable supplies and contract expirations. The CFTC also conducts routine rule enforcement reviews of our regulatory programs. NYMEX consistently has been deemed by

the CFTC to maintain adequate regulatory programs and oversight, in compliance

with its self-regulatory obligations under the Commodity Exchange Act.

SPECULATORS

It is widely, yet inaccurately, theorized that speculators can drive prices up. Placing blame on speculators may grab the attention of the media, but does not accurately reflect the realities of how markets work. With hundreds of commercial participants and instantaneous price dissemination, any ‘‘speculative’’ price would be

met with an equally strong ‘‘commercial’’ reaction. If markets move in a direction

inconsistent with actual market factors, a vast number of participants including energy producers, wholesalers, retailers, and government agencies have comparable

access to information. These participants will respond to ensure that prices rapidly

return to where the industry consensus believes they should be.

Speculators do exist and they actually play a valuable, even necessary role in the

market. They add liquidity to the market and enable commercial traders to get in

and out of the market when necessary. By the nature of their role, speculative traders seek to participate in price trends that are already underway, but because they

lack the capacity to make or take delivery, they will never be in a position to hold

a market position through to the delivery process. They create virtually no impact

on daily settlement prices, the primary benchmark used by the marketplace.

The speculative participation in the NYMEX New York Harbor Gasoline Futures

Contract continues to be relatively modest and essentially unchanged from levels observed a year ago. Our latest data from year-end 2005 (see chart D, attached) show

that speculators held 24 percent of the total open futures positions, up from 22 percent in the previous year. Meanwhile, commercial companies, which are actively

hedging their physical gasoline transactions, account for the majority of the futures

market participation with 76 percent of the total open interest. Open interest represents the total number of futures contracts that are currently held by buyers and

sellers, and this measure of market participation is monitored by the Exchange and

reported to the CFTC on a daily basis.

CONCLUSION

At all times during periods of extreme uncertainty in the market, NYMEX has

been the source for transparent prices in the energy markets. Our price reporting

systems, which provide information to the world’s vendors, have worked flawlessly

and without delay.

The NYMEX marketplace continues to perform its responsibility to provide regulated forums that ensure open, competitive and transparent energy pricing. We can

only imagine the market uncertainty and further devastation to consumers if

NYMEX were unable to perform its duty and prices were determined behind closed

doors.

I thank you for the opportunity to share the viewpoint of the New York Mercantile Exchange with you today. I will be happy to answer any questions members

of the committee may have.
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