Friday, July 18, 2008

The Dark Side of Futures Trading

The A.P. is moving a story about the Imperial Irrigation District's disastrous natural gas trading positions. It is a soberting tale of what can go (really) wrong when a utility bets wrong in trying to hedge against future price increases.

According to the A.P., in 2005 after massive hurricanes struck the Gulf Coast, a trader working for the IID boutght $155 million worth of natural gas contracts, betting that prices would spike after the natural disasters on the Gulf Coast. Indeed, prices did spike, but only temporarily, and the IID lost, by one estimate, $51 million.

To put that in perspective, the A.P. notes:

"The higher prices were passed along to Imperial Irrigation's customers in this struggling agricultural area of around 15 percent unemployment, and their monthly electric bills climbed about $10 on average, said John Pierre Menvielle, president of the utility's elected board. The board also had to make $20 million in budget cuts this year that included putting off the replacement of utility poles."

After an investigation, no charges were brought against the trader which suggests dysfunctional internal controls at the utility were as much to blame as the individual trader.

To give you a rather bleak pictoral coda to this story, the commerical space that once housed the errant IID trading operation, is now occupied by a Chinese restaurant, next to a payday loan shop.