As the chief investment officer and portfolio manager of U.S. Commodity Funds, John T. Hyland has been a central figure in the debate over increased regulation of commodities futures markets. He has testified before the Commodity Futures Trading Commission about the impact of his company's controversial United States Oil Fund (NYSEArca: USO) and United States Natural Gas Fund (NYSEArca: UNG), both of which have been accused of distorting their respective energy markets.

At last week's "Inside Commodities" conference, IndexUniverse.com Associate Editor Lara Crigger caught up with Mr. Hyland to discuss his thoughts on the energy markets, including how regulation could impact the exchanges, the implications of the Saudis’ switch to the Argus Sour Crude Index, and why we'll inevitably move away from U.S.-centric energy ETFs.

IU.com: Critics of commodity ETFs have argued that index funds like UNG and USO drove last year's extreme volatility in energy prices. What's the real impact of index funds on the markets?

Hyland: The allegations are completely without any factual basis whatsoever. You can look at the data on our Web site, and see that when the price of oil went up, USO's number of contracts owned went down, and vice versa. Now, we don't want to say that it's an ironclad rule, that if oil goes to $40, then USO will double or quadruple or whatever the number of shares outstanding. But what has clearly occurred in the past is that people tend to be net buyers of USO when the price is dropping, and the reverse when the price is increasing.

So in February, when oil was $35/barrel, we owned 90,000 contracts of CL [Light Sweet Crude Oil (WTI) Futures, NYMEX]. Oil's at $80 today [Nov. 4, 2009], and we own 26,000 contracts. So the argument just falls on its face.

IU.com: If the data is so obvious, why does the misconception persist?

Hyland: I think … some bloggers have this ax to grind. They go off on these rampages claiming things without bothering to look up the data. They presumed that it was speculators, but then say, "Well, we don't have the data, but it just must be."

But the commodity ETFs do tell you what they own. You can get the data by going to our Web site, or to our quarterly and annual reports. The data was always there; they just didn't bother to look at it.

IU.com: The regulation debate has cooled a bit, but that doesn't mean it has gone away entirely. If/when we do see increased regulation, what form do you think it will take?

Hyland: There's a lot of ways this can go. But it sounds like the regulators are evolving their thoughts, possibly now that they've had a chance to pore over the data. They realize it doesn't support the case against commodity ETFs.

I do think they have some legitimate concerns that if [the CFTC tries] to be unreasonable with all this, a lot of people would just move off-exchange. And they say, oh, well we'll make other changes and we'll do this and that, and we'll somehow corral them back.

IU.com: It's not easy to chase investors overseas.

Hyland: Right; it would be a lot easier to just work with people. If you have a real concern about roll procedures, or something else, then just address that, rather than getting into this whole large convoluted thing whose only beneficiary is going to be Singapore.

IU.com: Last week, Saudi Arabia announced it would drop the WTI as its pricing benchmark in favor of the Argus Sour Crude Index. What impact do you see this having on the oil markets?

Hyland: It's certainly an indication that one should not assume perpetual dominance in any kind of trading. What Saudi Arabia has done, I think it's a double jump ball.

IU.com: How do you mean?

Hyland: So the first, obvious jump ball is if this new benchmark starts to gain a lot of traction, the traction will come at the expense of trading in straight WTI, probably by definition. So if you're NYMEX, what's the first thing you're going to do? You're going to launch an Argus Sour Crude contract. If you're ICE, what are you going to do? You'll launch one too.

Both of them have this natural advantage, which has endured: NYMEX dominates 75 percent of the trading in WTI, because they were first to launch it, and ICE dominates 98 percent of the trading in Brent, because they were first in trading it. But now you have something that's brand new, without any product around it whatsoever.

So, you see, it's a jump ball. Which exchange is going to win? There will probably only be one big winner and one distant second-place person. So who will all the market makers and traders want to go to? I have no idea.

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