A new approach to measure speculation in the oil futures market and some policy implications. (November 2015)

• Record Type: Journal Article
• Authors: Chan, Leo H.; Nguyen, Chi M.; Chan, Kam C.
• Is Part Of: Energy policy. Volume 86(2015)
• Page Start: 133
• Page End: 141
• Publication Date: 2015-11
• Subjects: Oil futures -- Regulation -- Basis risk -- Speculation; Energy policy -- Periodicals; Politique énergétique -- Périodiques; Electronic journals; 333.79
• DOI: 10.1016/j.enpol.2015.06.034
• Languages: English
• ISSNs: 0301-4215

Abstract

Abstract: We propose using a new relative measure, the speculative ratio, defined as trading volume divided by open interest, to gauge speculative activity in the oil futures market. We apply the speculative ratio to examine the relation between basis and speculative activity in the oil futures market before and after the financialization of the oil market in 2003. Our finding suggests that the oil futures market is dominated by uninformed speculators in the post-financialization period. Our finding carries several practical policy implications, as follows: (1) both the commodity exchange and the regulator should design regulations and trading policies that improve basis risk; (2) on the commodity exchange side, new policies on margin requirements and position limits for speculators should be implemented; (3) margin requirements should be based on the level of basis risk; (4) regulators should speed up implementation of the position limit rule in the Dodd–Frank Act; and (5) stronger and more meaningful enforcement actions by regulators are required to punish and deter market manipulators. Highlights: Use a new speculative ratio to gauge speculative activities in oil futures market. Examine the relation between basis and speculative activities. The new speculative ratio also works well in the post-2008 oil bubble period. Oil futures market is dominated by uninformed speculators in post-financialization in 2003.