Commodity derivatives: twenty years later, are we still asking the same questions?

Orienta's Marc Cornelius examines the European Commission's latest review of commodity derivatives markets and asks what has really changed since the original MiFID negotiations more than twenty years ago.

The European Commission's recent review of MiFID II commodity derivatives markets gave me a strong sense of déjà vu.

More than twenty years ago, during the negotiations that created MiFID I, we spent a considerable amount of time grappling with a deceptively difficult question: how should financial-services regulation apply to firms whose principal business is not financial services at all?

That question has never really gone away. It has resurfaced through MiFID II, EMIR and REMIT; through successive debates about position limits, transparency, reporting and the ancillary activities exemption; and, most recently, through the extraordinary volatility and liquidity pressures experienced in European energy markets.

What is striking about the Commission's latest review is not simply where it lands, but how familiar many of its conclusions feel.

A familiar debate

After two decades of reviews, reforms, crises and consultations, policymakers appear to keep returning to broadly the same conclusions:

• commodity markets are structurally different from traditional financial markets;

• commercial firms (e.g. producers, refiners, generators) play an important role in liquidity and price formation;

• disproportionate regulation can damage hedging markets and increase concentration; and

• forcing physical commodity businesses into a conventional financial-services framework can create unintended consequences.

The Commission's decision not to propose a fundamental rethink of the Ancillary Activities Exemption is therefore significant, particularly given the extraordinary volatility experienced during the European energy crisis.

But there is a broader question here.

If the market isn't broken, what are we trying to fix?

Commodity and energy markets seem to attract a recurring cycle of regulatory attention. Periods of volatility prompt concerns about market structure, concentration and speculation, followed by calls for greater transparency, additional reporting or enhanced supervisory powers.

The Commission's Gas Market Task Force report provides an interesting companion to the MiFID review.

Despite approaching the subject from a different direction, it reaches a strikingly similar destination. It finds little evidence of fundamental structural problems in EU gas and gas-derivatives markets and stops well short of recommending wholesale redesign.

Instead, the emphasis shifts towards better implementation and enforcement of REMIT, greater cooperation and data-sharing between ACER and ESMA, improved visibility of positions and OTC activity, better analytical tools and greater scrutiny of algorithmic and AI-driven trading.

That suggests the challenge may increasingly be less about designing new regulatory frameworks and more about making the existing ones work effectively.

More data isn't necessarily better supervision

There is, however, a tension in that conclusion.

The MiFID review itself recognises the fragmentation and complexity created by reporting across MiFID, EMIR and REMIT. Yet the regulatory response to concerns about commodity markets still frequently involves asking for greater quantities of data.

At some point, we need to ask a more fundamental question:

What supervisory outcome will the additional data actually deliver?

Regulatory reporting imposes real costs on firms. It also imposes costs on regulators, which must ingest, reconcile, understand and analyse increasingly large and overlapping datasets.

More information has obvious value where it closes a genuine supervisory blind spot. But collecting data simply because it might prove useful risks creating operational burden for firms and ever-larger regulatory data lakes without materially improving oversight.

Data for data's sake does not necessarily produce better regulatory outcomes.

Perhaps the framework isn't the problem

There is something encouraging in two substantial Commission reviews concluding that these markets are, broadly, functioning as intended.

That doesn't mean the regulatory framework is perfect. Nor does it mean commodity markets should receive less scrutiny. Their economic importance alone makes effective oversight essential.

But it does suggest a change of emphasis.

After twenty years of repeatedly revisiting many of the same questions, perhaps the next gains will come less from continually redesigning the regulatory architecture and more from making better use of what already exists: clearer regulatory objectives, effective implementation and enforcement, better cooperation between regulators, and smarter use of the considerable information firms already provide.

That feels like a more productive direction than simply adding another layer of rules or another reporting requirement.