Global Financial Stability Report: Two new issues for monitoring: hedge funds and energy trading

• Pages: 302-303

Page 302

IMF SURVEY: Is the speculative activity of hedge funds in the oil market causing the price hike?

GROOME: We do not believe that is the case. Hedge funds appear to be no more participating in this market movement than pension funds, investment banks, and mutual funds. All investors are diversifying their portfolios into alternative investments such as commodities, including oil. We do not believe that speculation in the energy market is the primary reason why prices are up. Most investors in the world believe that we face real supply constraints in the face of growing demand and that we will likely experience a period of sustained higher prices that will induce more infrastructure investment and eventually alleviate current bottlenecks.

IMF SURVEY: The Global Financial Stability Report suggests that you intend to closely monitor energy trading and energy market developments as part of your financial market surveillance work. Why? funds are aggressively competing for this profitable business, and some counterparties may relax credit terms and allow much greater levels of leverage.

GROOME: There is a lot of activity in the financial markets, including among energy assets-both cash and derivative. Enron's crisis did not halt the growth or interest in these markets; in fact, it arguably helped by making it evolve, mature, and become a bit more stable. There have also been interesting structural developments in the energy markets. Some of the big investment banking firms have bought companies that generate power-which signals how serious they are about remaining in the energy trading business. The more they get into these markets, the more they need the physical assets to hedge positions, because you can't always rely on using financial instruments exclusively to hedge in the energy markets.

IMF SURVEY: What is behind this growing activity in the energy market?

GROOME: We believe that the energy market-especially oil and natural gas-is undergoing a structural change. Why? Supply, supply, and supply. China is certainly a big part of the recent surge on the demand side and, no doubt, much of China's increased demand is structural. But the other component most frequently cited by investors for a sustained price adjustment has been the lack of infrastructure investment. If the level of investment in refineries and delivery systems in the 1980s and 1990s hadn't greatly diminished from the level in the 1970s, meeting China's and others'...