The Death of an Energy ETF (DXO)

It has been no secret that the CFTC is looking into many exchange traded notes and exchange traded funds that deal in the energy markets, along with other futures and other investment vehicles, to see how the role of speculators has played in the price swings in the commodity markets.  Today came the announcement that one ETN is going to be killed (ergo redeemed) as a result.

Deutsche Bank announced that it will redeem all outstanding units of its PowerShares DB Crude Oil Double Long Exchange Traded Notes (NYSE: DXO).  The financial firm said that limitations imposed by the exchange on which Deutsche Bank manages the exposure of the notes have resulted in a “regulatory event” as defined in the terms of the notes… and this is causing Deutsche Bank to redeem the notes.

Deutsche Bank has said that this is an isolated event and does not affect the other notes offered by the firm. It further stated that there is no affect upon the PowerShares DB exchange traded funds offered by DB Commodity Services LLC and it pledged in the release to continue to maintain and develop new commodity exchange traded products and to offer a full range of commodity trading services.

The firm expects to provide notice of this redemption on September 9, 2009. The repurchase value of the Notes will be determined as of the date notice is given. Payment of the repurchase value of the Notes will be made on the third business day following the date of notice.  Furthermore, the daily creations of DXO will remain suspended. Daily repurchases at the option of investors will be accepted in the normal manner up to and including September 9.

In short, this ETN may not trade normally now.  Further, when other ETN or ETF products have been closed at other firms unrelated to this, it is a possibility that investors need to at least consider that the funds (or notes here in this case) may not act or react to the underlying index or act according to its investment policy.  That is unfortunate, but when this occurs the best thing traders can do is to try to limit the exposure.  We recently warned that certain ETF and ETN products were starting to look more and more like closed-end funds rather than mirror ETF/ETN products that trade exactly around an underlying index or commodity.  This was one of  them.

The PowerShares DB Crude Oil Double Long ETN (NYSE: DXO) closed down 2.2% at $4.38 today, and the 52-week trading range is $1.73 to $17.35.  We also saw more than 7 million shares trade today versus an average volume of roughly 12 million.

Be advised.  This is not a crystal ball call, but it is intuition.  2009 is the year that the energy ETF, energy ETN, and probably the margin requirements and cost of futures on exchanges are under the gun.  If this works, there will be more of the same.  What else can be manipulated or could be swung around wildly by speculators that is another hard commodity with a finite size of the underlying physical markets?  Metals…  That will be the focus of 2010, if not 2009.

The CFTC is targeting energy in this current effort.  But certain commodities do have limits on the number of derivatives or related products that are allowed based upon the size of the underlying markets themselves.  Stocks have limits on the size of a number of stock options that can trade on any underlying stock for the obvious reason that suddenly you could see gross moves in the underlying stock based upon nothing more than options trades.  That can already happen now, but the size limits are to limit the impact.

JON C. OGG