The impact of excessive speculation on commodity market prices

Abstract

Following severe price hikes in commodities prices during both 2007/08 and 2011, questions are being asked as to the role of excessive speculation on commodities markets in bringing about this unsustainable situation. Tracking the increased financialisation of commodities markets and the legislatory loopholes which have helped to enable the rise of Over-the-Counter derivatives swaps and other forms of potentially manipulative vehicles, this thesis uses economic theory and econometric tests to ascertain the impact of speculation on commodities prices.

T-tests were used to identify sub-martingale or bubble-like behaviour on daily and monthly LME (London Metal Exchange) Grade-A Copper spot closing prices, and financial bubbles were discovered between October 2005 and May 2006, when prices went from US$4000/ton to US$8700/ton. Further, smaller bubbles were shown in 1987, 1995, 2004, 2008 and 2011.

Granger-causality tests were also used to search for statistical causation between fluctuations in LME spots and 3-month futures returns, with inconclusive results, and between the FTSE100 index and copper returns. It was found that the FTSE100 exhibited strong statistical causation effects on both LME copper spots and 3-month futures returns, with the period mid-2007 to third quarter 2010 showing exceptional cointegration and Granger-causation between the two, theoretically unlinked markets, during times of great financial stress, as exhibited in volatility. In conclusion, financial speculation is shown to have influenced copper price fluctuations as well as possibly causing an unprecedented doubling of market prices in just 6 month.