High Frequency Trading and Oil

The hand-wringing over high frequency trading is bleeding over into commodities markets - in particular oil futures. Transcripts released show that HFT Optiver, which has been charged with manipulating oil prices by the CFTC, actively spooked prices up and down to suit them. This makes the CFTC look pretty toothless. A report released yesterday by the Baker Institute at Rice University blamed the sharp price rises last year squarely on speculators, and says that the CFTC botched the investigation by using inadequate models. Amy Myers Jaffe, who co-authored the report and is a highly respected energy expert, went so far to tell the NY Times that the CFTC then played down the results. She told the paper the regulator didn't want the blame to fall on it for providing inadequate oversight. The CFTC has a lot to answer for, it's true, but I believe chairman Gary Gensler is doing his utmost to bring the agency up to speed. There is one huge problem waiting to bite them in the bum, however, and that is the proliferation of HFT in oil. I have heard anecdotal evidence that already 30% of trades going through Nymex and ICE are generated by algorithms. I know for a fact that the bulge bracket's quants have developed algos that trade the arbitrage between ETF prices and the underlying constituent elements. ETFs such as UNG, USO and DXO that become skewed away from their net asset value are offering rich pickings for these HFTs. As the algorithmic trading landscape becomes more sophisticated in oil futures, the CFTC will find it even more difficult to nail down the culprits.