Commodity-Price Scapegoats

Donald Luskin's opinion piece on WSJ defends commodity index investors:

Commodity index funds are especially vulnerable politically. They are a big target – reportedly, there is about $260 billion invested in them currently. Among their largest investors are retirement funds for government employees and teachers, which by their very nature are subject to political pressure. For example, the organized labor lobby is already trying to get states to make their funds to stop investing in private equity deals in companies that won't employ union labor.

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The evidence against the index funds is circumstantial at best: Commodity prices have soared over the same recent period that commodity index funds have rapidly grown. So the index funds must have caused it.

But coincidence isn't causation. And such causation that can be shown to exist actually runs the other way: Rising commodity prices cause the dollar value of commodity index funds to rise, just as rising stock prices would make a stock index fund more valuable. This accounts for nearly half the reported growth in commodity index fund assets this year. But if commodity index funds are such a powerful influence on prices, how can one explain the fact that not all the commodities in the GSCI have risen?

Unlike other commodities buyers, index funds never take physical delivery of commodities to store or consume them. They are investors, not hoarders. They don't divert any supplies from the markets. When their futures contracts near expiration, they sell them and replace them with longer-dated contracts. Thus, once their positions are established, they are perpetually both buyers and sellers in equal proportion.

Maybe substantive evidence will never be found that index speculators (esp. investment banks) manipulated market. But when Congress weighs in, it's better to pull your money out of commodity and stay sideways, at least for a while.