You are here

Goldman's revision of commodity index caused plunge in gasoline prices

Section: Daily Dispatches

From The King Report
By William J. King
Friday, September 22, 2006

In yesterday's Wall Street Journal, Section C, there is a very interesting item in the article headlined "Some Investors Lose Their Zest For Commodities." The article notes that over that past few months, commodity funds have been liquidating commodity holdings. But here's the stunner: "Consider the Goldman Sachs commodity index, one of the most popular vehicles for betting on raw materials. In July, Goldman Sachs tweaked the index's content by cutting its exposure to gasoline. Investors tracking the index had to adjust their portfolios accordingly -- which sent gasoline futures prices tumbling."

Prior to Goldman's revision of the Goldman Sachs Commodity Index in July, unleaded gas accounted for 8.45% (dollar weighting) of the GSCI.

Now unleaded gas is only 2.30%.

This means that commodity funds had to sell 73% of their gasoline futures to conform to the reformulated GSCI.

But it wasn't only commodity funds that were forced to sell. Goldman's decision to lower the weighting of unleaded gasoline in its commodity index and NOT to roll any portion of the GSCI attributable to New York Harbor unleaded gasoline created problems for arbitrageurs and commercial traders as well.

Here is the Goldman press release:

"On July 12, 2006 Goldman, Sachs & Co. announced that, for the roll occurring in September 2006 (the September Roll) in relation to the Goldman Sachs Commodity Index (GSCI) futures contract expiring in October 2006, it would roll the existing portion of the GSCI that is attributable to the Reformulated Gasoline Blendstock for Oxygen Blending (RB) futures contract on the New York Mercantile Exchange but would not roll any portion of the GSCI that is attributable to the New York Harbor Unleaded Gasoline contract (HU) contract into the RB contract."

Goldman's changes probably induced arbs, commercial hedgers, and other traders to sell September and October unleaded gasoline future contracts to avoid possible (settlement, delivery, etc.) problems.

September futures expired in August; October contracts expire September 29. So unleaded gasoline prices collapsed in August and September.

* * *

Some Investors Lose Their Zest for Commodities

Natural-Gas Debacle at Amaranth
May Signal Broad Price Declines;
'Most Were Just Speculators'

By Gregory Zuckerman and Henny Sender
The Wall Street Journal
Thursday, September 21, 2006

On the heels of natural-gas losses at Amaranth Advisors and other hedge funds and a tumble in numerous commodities, some investors are selling such holdings in a shift that could send prices lower if it turns into a rush for the exits.

After long shying away from oil, natural gas, metals and other raw materials, investors of all stripes -- hedge funds, pension plans, endowments and individual investors -- have become enamored with commodity investing. These investors, including short-term speculators, have become key in various markets, sometimes driving prices more than industrial customers who buy the materials to make things or sell services.

How these Johnny-come-lately investors react now "will have an effect on users, commercial producers, as well as investors," says Howard Simons, a strategist at Chicago-based Bianco Research. "The flood of money that's come in is out of scale to anything in the past, and most were just speculators."

There are 68 commodity-oriented hedge funds, up from 29 just three years ago, according to Hedge Fund Research Inc. Those figures don't include the growing number of managed-futures funds and so-called multistrategy hedge funds, like Amaranth, that also deal in commodities.

As for pension funds, "until 2003, there wasn't a whole heck of a lot of interest in commodities," says Neil Rue, principal at Pension Consulting Alliance Inc. in Los Angeles. "But commodities are becoming a major asset class and investments in the area have multiplied since 2003. It wasn't 10% or 5% a year, but much more than that." Mr. Rue cautioned pension-plan clients to be wary of commodities.

Much as they did with tech-oriented investments shortly before they tanked in 2000, individual investors also have rushed into commodities, via stocks of commodity-related companies and mutual funds that specialize in such investments. There are 48 mutual funds that invest in commodities and related shares managing $56 billion, up from 34 funds with less than $10 billion three years ago, according to fund tracker Morningstar Inc. The Commodity Real Return fund of Allianz AG's Pacific Investment Management Co. has grown to more than $12.2 billion, from $8 billion about a year ago.

The 13th-largest holder of gold in the world isn't a central bank but an exchange-traded fund, a type of security that trades like a stock and tracks the price of an underlying investment class. StreetracksGold Trust, the largest gold ETF, has assets of $7.5 billion, up from $2.7 billion a year ago, mostly from new investments.

For evidence of these investors' influence, consider the Goldman Sachs commodity index, one of the most popular vehicles for betting on raw materials. In July, Goldman Sachs tweaked the index's content by cutting its exposure to gasoline. Investors tracking the index had to adjust their portfolios accordingly -- which sent gasoline futures prices tumbling.

Some investors entered these markets because they saw a long-term undersupply of a range of commodities, including oil, as economic growth in China and India increased demand. But others were less interested in such fundamentals and shifted in simply because commodities prices had gone up in recent years, hoping to catch the next wave. Low interest rates made it possible for hedge funds to borrow at attractive rates and invest in almost anything.

Lead illustrates the impact: It's basically industrial waste, the unloved byproduct of processing copper and gold. But prices for lead -- mostly used in batteries, primarily for vehicles -- have more than doubled in the past five years, even though stockpiles are high.

Now there are signs that some of that "hot" money is exiting the market.

"Large speculators began to liquidate gold and silver," wrote Mary Ann Bartels, a Merrill Lynch analyst, in a report this week. "But there are no signs of panic that accompany a bottom."

The gold ETF has seen little new money in the past month. "The luster is off this sector, people are suddenly realizing that gold-fund returns will not be as good as they've been," says Jeff Tjornehoj, an analyst at mutual fund tracker Lipper.

Merrill Lynch's research suggests that hedge funds that speculate in oil have been doing some selling lately, but many actually added to their natural-gas positions while keeping their heating-oil positions unchanged. Oil futures dipped below $60 a barrel during yesterday's trading session and closed at $60.46, down $1.20.

The Pimco commodity fund is seeing little new investments lately, in part because it's down almost 7% this year, though it also hasn't seen much in the way of withdrawals, says portfolio manager John Brynjolfsson, calling fund flows "relatively steady and uneventful."

A fall in commodities prices might not be all bad news. Though a rush for the exits could cause pain for commodities investors, an additional decline in the cost of energy and industrial metals could give a shot in the arm to the global economy. And money moved out of commodities could shift into the stock market, sending shares higher.

The end of this month could be key. Many commodity-oriented hedge funds let investors withdraw money monthly or quarterly, so if losses persist, there may be big withdrawals. That could cause more carnage in the hedge-fund world.

Amaranth's woes were caused by bad bets that natural-gas prices would rebound. Yesterday, natural-gas futures continued reacting to a large selloff of positions by Amaranth. October natural-gas futures on the New York Mercantile Exchange dropped 7.5 cents to settle at $4.93 per million British thermal units. November gas futures settled 18 cents down at $6.02/MMBtu, December futures dropped 22.1 cents to $7.66/MMBtu and January fell 23.6 cents to $8.20/MMBtu.

* * *

at the
2006 Toronto Resource Investment Conference
Sunday-Monday, September 24-25, 2006

* * *

at the
New Orleans Investment Conference
Wednesday-Sunday, November 15-19, 2006

When you register for this conference online, PLEASE help GATA by designating us as the organization through which you heard about the conference. There's a window at the bottom of the Internet registration form for designating us as your recommender, and the conference will pay GATA a commission for each GATA supporter who attends.

* * *

Help Keep GATA Going

GATA is a civil rights and educational organization based in the United States and tax-exempt under the U.S. Internal Revenue Code. Its e-mail dispatches are free, and you can subscribe at GATA is grateful for financial contributions, which are federally tax-deductible in the United States.