By Bart Chilton
There are three commonly referred to loopholes: the Enron loophole, the London loophole, and the swaps loophole. We’ll go over each, one at a time, and get rid of a little of the mystique surrounding them. When I’m done, hopefully you’ll start to see the derivatives markets in a new light, with sharper focus, and more clarity.
Enron Loophole Let’s start with what is now commonly referred to as the “Enron Loophole,” which was a provision included as part of the 2000 Commodity Futures Modernization Act (CFMA). This provision deregulated part of the futures markets by certain exempting electronic markets from oversight by the CFTC and creating a new category: Exempt
Commercial Markets (ECMs).
As many of you have heard, Enron lobbyists, along with former Senator Phil Gramm, successfully negotiated the final compromise that came out of conference creating this new category. That’s not to assign blame on Senator Gramm, but merely to demonstrate why folks started calling this loophole the Enron Loophole.
Here is the practical side of the Loophole: Jeffrey Sprecher, an innovator on all counts, started the InterContinental Exchange (ICE Futures U.S. based in Atlanta) with a group of investors, who saw this opening to start a new exchange and not have to worry about all the pesky regulations associated with the regulated markets. ICE Futures U.S. has been very successful, though I think Mr. Sprecher, who serves as CEO would tell you they couldn’t have accomplished this level of success if saddled with the same regulatory hurdles that are applied to designated contract markets (DCMs).
CFMA, in this instance, got government out of the way and allowed the dawn of a new era of electronic trading, which has changed our market structure forever. Did Congress overshoot a little and also create an environment where folks like Enron could take advantage of the system? In hindsight, I think so.
And here’s why. Rather than an exhaustive conversation on the inner-workings of Enron Corporation, I’ll use another example of a company that actually took advantage of a light regulatory touch provided by the CFMA: Amaranth. This example is easier to understand, and in my view better demonstrates, the problem the Enron Loophole created and the consequences that resulted.
In 2006, Amaranth attempted to manipulate the natural gas market by taking very large positions on the New York Mercantile Exchange (NYMEX). The CFTC can see activity on a regulated exchange like NYMEX on a minute-by-minute basis. In coordination with CFTC staff, NYMEX realized these levels were very high. NYMEX began addressing the situation by contacting Amaranth and instructing it to promptly liquidate its natural gas positions.
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