Grainnet

NGFA Tells Congress It Supports Moratorium on Granting Hedge Exemptions for Funds in U.S. Ag Futures Markets

Washington—The National Grain and Feed Association (NGFA) told Congress this week that it formally has petitioned the Commodity Futures Trading Commission (CFTC) urging the agency to impose a moratorium on all hedge exemptions for certain investment funds in U.S. agricultural futures markets to provide time for the market to adjust.

In testimony presented to the House Agriculture Committee’s Subcommittee on General Farm Commodities and Risk Management, the NGFA said one of the “bedrock” fundamentals underpinning agricultural futures markets – the previously predictable convergence (narrowing) between cash and futures market prices during the delivery period – “has deteriorated to a point that many commercial grain hedgers are questioning the effectiveness of hedging using exchange-traded futures contracts.”

The NGFA warned that the deterioration in convergence, combined with increasingly volatile futures market prices, have combined to dramatically increase capital requirements and interest costs for grain elevators, feed mills and grain processors to finance margin calls on futures-based cash grain contracts.

Established in 1896, the NGFA consists of 900 grain, feed, processing, exporting and other grain-related companies that operate about 6,000 facilities that handle more than 70 percent of all U.S. grains and oilseeds.

NGFA Risk Management Committee Chair Rod Clark, vice president, CGB Diversified Services, Mount Vernon, Ind., attributed the deterioration of convergence between futures and cash prices to several factors, including higher and more volatile transportation costs; increased demand resulting from biofuels growth; and changes in supply/demand fundamentals.

But he noted that a relatively new factor – the infusion of large amounts of capital in agricultural futures markets by passively managed, long-only investment funds, such as pension and index funds – has “disrupted markets and resulted in futures prices no longer reflecting true supply/demand fundamentals.”

Entities with “long-only” futures market positions – like index and pension funds – have purchased futures contracts for commodities on an exchange, but have not offset those futures market positions with a cash market transaction.

The NGFA said long-only, passively managed investment funds account for a significant share of open interest – the number of outstanding futures contracts that are not liquidated during the delivery period – in Chicago Board of Trade grain and oilseed futures.

Based upon a CFTC report issued April 8, the NGFA noted that such funds accounted for at least 30 percent of net open interest in corn, 34 percent in soybeans and an astounding 50 percent in wheat.

“These passively managed, long-only contracts are not for sale at any price for extended periods of time,” Clark said, which takes a “large share” of grain and oilseed volume off the market, thereby reducing liquidity.

“This results in elevated futures prices not reflective of demand, increased speculative interest in the market, increased price volatility and pressure on banking resources (of hedgers) to fund margins on outstanding futures contracts,” he said.

The NGFA said it also has recommended to the CFTC that long-only, passively managed investment capital participate in futures markets on a dollar-for-dollar, unleveraged basis.

That would result in a requirement that a fund hold an identical amount of investor funds in a separate account to offset the participant’s agricultural futures market position.

Further, the NGFA told the House subcommittee that it has recommended that the CFTC analyze in detail the reporting it receives from futures market participants to determine that all long-only investment capital is reflected accurately in the agency’s weekly commitments of traders report.

Accurate reporting of fund activity in agricultural futures markets will allow traditional hedgers to better develop their risk-management strategies based upon supply/demand fundamentals.

“Without a doubt, market participants will create new products for risk management that reflect the broad changes occurring in the agricultural landscape – transportation, biofuels and major acreage shifts, to name a few,” Clark said.

“But in the short term, there are real disconnects and real stresses, in particular on the commercial grain-hedging sector…, that call for actions that will give the market a breather to adjust to new market realities.

"Failure to do so could have serious consequences for all sectors of agriculture, including producers and the elevators that work with them to facilitate efficient marketing and risk-management” for the grain, feed and grain-processing sectors.

For more information, call 202-289-0873.