City watchdog rejects oil markets loophole

Accusations that Britain’s oil markets operate under a “London loophole” of lax regulation were dismissed on Tuesday by the City watchdog.

Alexander Justham, director in the Financial Services Authority’s markets division, insisted the agency was overseeing London’s oil markets just as strictly as its US counterpart was handling markets across the Atlantic.

“There’s not huge evidence of market abuse,” he told a Commons Treasury select committee session on the regulation of oil markets – the first such hearing in Britain.

Washington lawmakers, eager to demonstrate to voters that they are addressing record oil prices, have held hearings into whether futures traders could be engaged in “excessive speculation” or outright manipulation that might be driving up prices.

Tuesday’s hearing was a sign that MPs also feel they should address the issue amid growing unease over high energy prices.

The US lawmakers focused their attention on London’s vast oil markets, where trading in crude oil futures contracts are done on ICE Futures Europe, a subsidiary of Atlanta-based InterContinental Exchange.

Some of them say traders could be manipulating prices because of a lack of position limits and accountability levels at ICE – technical measures aimed at limiting excessively large positions. ICE says it has adequate mechanisms to spot potential market manipulation.

Mr Justham said the FSA could monitor traders’ positions effectively without such formal measures.

“The London loophole is a slightly pejorative term [referring to] a difference of approach. We apply a more flexible and appropriate standard but we have exactly the same philosophy [as US regulators].

“We have exactly the same – if not a tougher – regime around the obligations of an exchange to monitor and manage positions and monitor trading activity.

“We’ve always had insight as to what’s going on, there has never been any issue around us having access to available information around the positions people hold,” Mr Justham said.

Hackles were raised in the City when the US futures watchdog, the Commodity Futures Trading Commission, recently insisted on the imposition in London of position limits and accountability levels common at US exchanges. ICE has agreed to the demand, which has to be approved by the FSA.

The move was seen by critics as a US regulator reaching beyond its borders to impose its standards on London.

Mr Justham was grilled five times by Michael Fallon, Conservative MP for Sevenoaks, on whether the FSA had given prior approval before the CFTC announced the position limits requirement.

Mr Justham said: “The CFTC fully informed us of what they would like to do with ICE. We were informed about the announcement.”

Chris Cook, a consultant and former director of compliance and markets supervision at the International Petroleum Exchange – which was bought by ICE in 2001 – said that if a regulatory gap existed, it was not in the futures markets but in the physical oil and over-the-counter markets, where deals are negotiated privately between traders.

“I do think there is potentially a loophole but it’s a ‘global loophole’.

“There is no global mechanism for transparency, never mind of the futures market but in the OTC market where all the action is happening. In my view one is required.”

A difference of approach

US lawmakers like to talk of making sure “the cop is on the beat” in the energy markets – meaning that regulators are using lawyers and market surveillance staff to seek out possible price manipulation.

The Commodity Futures Trading Commission, the US futures watchdog, has about 130 lawyers looking at the US oil and oil futures markets. Its UK counterpart, the Financial Services Authority, relies on dialogue and the threat of legal enforcement – a threat on which the FSA has yet to act since it was established in 1997.

The FSA on Tuesday was at pains to convince MPs the CFTC’s list of enforcement actions – 39 cases since 2002 involving fines of $500m (£250m) – was not quite what it seemed. Alexander Justham, director of its markets division, said the CFTC had only had four oil market cases, and not one involved manipulation. But he did not mention that defendants tended to settle manipulation cases before they went to court.

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