London, 19 October 2010

Tougher commodity market regulation is likely to achieve the aim of dampening trading, but it could also encourage price spikes and lead to management buyouts as brokers try to avoid curbs, a fund manager said.

Dawn Kendall, head of investment strategy at UK-based fund manager Architas Multi-Manager, said position caps could limit the activities of big brokers in metals and energy markets.

"I think it is possible position limits will be implemented at the holding company level, and in the short term it will mean a reduction in trading," Kendall told Reuters on Monday.

Trading restraints could trigger price spikes because of the "inability of market forces to normalise", she added. "The bigger players will have to fragment their business, split it into different companies. That takes time and capital, but it's a great opportunity for management buy-outs of commodity trading businesses."

Regulators around the world are revising rules governing the financial industry in the wake of the global crisis. The U.S. Commodity Futures Trading Commission has said it will have new rules in place by mid-January to limit the energy contracts that hedge funds, banks and other speculators can control to comply with the financial reform law passed in July.

"You could argue that each commodity subsidiary or division should have a limit. But that's unlikely -- they haven't got time and they may have to use a blanket solution," Kendall said.

"It's down to the industry to lobby the regulator and exchanges to make sure they take this into account."

DERIVATIVES

New rules will affect banking, insurance, exchanges, derivatives (including those traded on commodity exchanges) and asset management companies. Derivatives, described by billionaire investor Warren Buffett as "financial weapons of mass destruction", were blamed for triggering panic after Lehman Brothers collapsed in 2008.

More recently, some politicians say short-selling exacerbated Greece's problems as it grappled with heavy debt. The European Union's executive unveiled a blueprint in September to curb or ban short-selling and tighten controls on derivatives in one of its most ambitious financial reforms since the economic crisis unfolded.

"The largest impact is going to be on London, the biggest commodity trading centre in Europe," Kendall said. Many regulators around the world blame speculators such as hedge funds and bank proprietary traders for price spikes in commodity markets.

Kendall disagrees they are solely to blame. "I don't think most of the price spikes are down to pure speculation. A lot of it is because of demand from emerging markets."

Developing countries such as China and India account for the large proportion of demand growth for commodities such as copper, oil and grains.

"An economic cycle is about three years. A commodity cycle would be about 20 years, we're only about 7-8 years into that."

Architas is a member of France's AXA Group.

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