A quick recap of Soros’s prepared remarks at the Senate hearings on energy market manipulation, which I watched just now.
The billionaire said that he had a view of bubbles that departed from conventional wisdom about financial markets. They start with a trend but the dymamic becomes self reinforcing and increasingly disconnected from reality.
For oil, Soros said that the price appreaciation resulted from four factors:
1. Declining productivity of existing fields and increased cost and difficulty of finding new oil fields
2. Backwards sloping supply curves in supplier nations who deem it attractive to defer development of oilfields when prices are high and appreciating
3. Increasing demand from countries such as China and India which are growing rapidly but also subsidizing the price of oil and thus not presenting buyers with true costs
4. The role of index investors
Soros stressed that there would have been increases in oil prices without speculative factors, which are acting on top of an upward sloping curve. While he said that curve had become parabolic, which was a sign of a bubble, he said he did not expect prices to fall soon (although he did say that when bubbles break, the reversion is sharp). He mentioned softening demand from emerging markets as a possible trigger.
He also said that index investors had initially helped producers, since backwardization of commodity futures prices was an inefficiency and they helped alleviate that. However, unlike investments in stocks and bonds, which help promote economic activity, index fund investments in commodities do not aid the real economy and are not an appropriate use of capital.
Soros cautioned against regulation, since it might simply lead investors to move to unregulated commodities markets, such at OTC trading. He recommended first trying moral suasion, to persuade fund managers that investing in commodities was a violation of the prudent man rule. if that failed, ERISA investors could be prohibited from investing in commodity futures. He was cautious about raising margin requirements, but said that tool should be used more actively. He did not elaborate, but appeared to allude to financial regulatory proposals to implement pro-cyclical capital requirements.
It is noteworhty that the committee members seemed far more eager to take aggressive action than Soros appeared to be.