AGRICULTURAL CONFERENCE AND FARM BOARD INQUIRY SATURDAY, NOVEMBER 28, 1931 UNITED STATES SENATE, COMMITTEE ON AGRICULTURE AND FORESTRY, Washington, D. C. The committee met, pursuant to adjournment, on Friday, November 27, 1931, at 10 o'clock a. m., in the committee's hearing room in the Senate Office Building, Senator Charles L. McNary presiding. Present: Senators McNary (chairman), Norris, Capper, Norbeck, Frazier, Thomas of Idaho, Kendrick, Wheeler, Thomas of Oklahoma, and Shipstead. Present also: Senators Brookhart, Dickinson, Gore, and Connally; Representatives Smith of Idaho, Hope, Selvig, and Jones. The CHAIRMAN. The committee will come to order, pursuant to the chairman's statement that we meet at 10 o'clock this morning rather than 10.30. I was hoping we might conclude the hearing before the lunch hour. Is Mr. Sexauer present? (There was no response.) The CHAIRMAN. Mr. Sanders, did you have some one that you desired to appear before the committee? Mr. SANDERS. Yes; Mr. Siebel C. Harris is here. STATEMENT OF SIEBEL C. HARRIS, CHICAGO, ILL., OF THE FIRM OF SCOTT, BURROWS & CHRISTIE, CHAIRMAN OF THE GRAIN COMMITTEE ON NATIONAL AFFAIRS The CHAIRMAN. What is your full name, address, and occupation? Mr. HARRIS. Siebel C. Harris. The CHAIRMAN. Where do you reside? Mr. HARRIS. In Chicago. The CHAIRMAN. What is your business? Mr. HARRIS. I am in the grain business. The CHAIRMAN. What is the name of the firm you represent? Mr. HARRIS. Scott, Burrows & Christie is my firm. I speak as chairman of the Grain Committee on National Affairs. The CHAIRMAN. Is that firm associated with any of the exchanges? Mr. HARRIS. They represent all of the leading exchanges in legislative matters. They were formed for that purpose, sir. The CHAIRMAN. Do you appear here in opposition to the agricultural marketing act? Mr. HARRIS. No, sir. I should like to make a statement of the attitude of the exchanges as represented by the committee on the matter of short selling. The CHAIRMAN. All right. You have a statement in writing, or do you desire to make an oral statement? Mr. HARRIS. I have a statement here, sir, that will require not to exceed five minutes. The CHAIRMAN. All right; you may proceed, Mr. Harris. Mr. HARRIS. This is a statement on short selling, by the Grain. Committee on National Affairs, before the Senate Committee on Agriculture. The CHAIRMAN. Does it favor short selling, or is it in opposition? Mr. HARRIS. It is in defense of short selling. The CHAIRMAN. Very well. Mr. HARRIS (reading): The economic value of short selling and its benefit to the producer and consumer have been commented upon by the report of the Josiah Stamp Commission, which recently investigated the Canadian marketing system. We quote from the report as follows: "Does short selling depress prices? On this question the answer of the representatives of the grain trade was that short selling does not unnaturally depress prices. To permit speculative buying and at the same time prohibit or restrict speculative selling would unduly upset the balance of the market and eventually destroy it entirely. Short selling can not provide a fictitious supply of grain. If its immediate effect is to depress prices, its ultimate effect must be in the opposite direction, for the short seller automatically becomes a compulsory buyer. "No one of the trade witnesses could recall an occasion on which an attempt was made unduly to depress prices on the Winnipeg market. So far as general statistical material was before the commission, it appeared that both during the 10 years before the war and the 10 years following the opening of the futures market after the war, the mean price line in each year rose or fell in general conformity with the relative increase or decrease in total world supply of wheat and the changes in the value of money. No outstanding distortion of price levels by years, either up or down, was revealed." During the many years of their existence the grain exchanges have been the mediums of enabling the farmer to obtain the best prices possible for his grain. It would have been impossible for these organizations to have carried on during all this long period had they not performed this function. The interests of the grain exchanges are necessarily those of the farmer, because the exchanges depend upon the successful handling of the latter's products. At the present time the exchange members, like the farmers throughout the country, are gravely concerned about the agricultural situation. They believe their existence, prosperity, and adversity is coincident with that of the farmer. Numerous official and unofficial reports and investigations attest to the extremely small margin of profit exacted in the merchandising activities involved in the various processes of handling grain from the time it leaves the producer until it reaches the manufacturer. The fundamental basis of this system of merchandising is a free and open market in which the risk of ownership or price fluctuation is shifted from those merchandising elements who wish to avoid it to those speculative elements who wish to assume it. Without the elimination of this merchandising risk the margin of profit could not be effectively reduced for the benefit of the producer and consumer alike. Anything which tends to curtail or eliminate the speculative market correspondingly interferes with the ability of the merchandiser to shift his risk. Basically, this system is a form of insurance against price risk in which the merchandiser is the insured and the speculator is the insurer. It is as sound in its fundamentals as the same principle of insurance applied to risks of loss by fire, theft, tornado, and other insurable hazards. There can be no such thing as a free and open market without the right to register and express opinions as to the value of an article, based upon all available data. Mr. Justice Holmes, in the case of Board of Trade v. Christie Grain and Stock Co. (198 U. S. 236 (247)), said: "Of course, in a modern market, contracts are not confined to sales for immediate delivery. People will endeavor to forecast the future and make agreements according to their prophecy. Speculation of this kind by competent men is the self-adjustment of society to the probable. Its value is well known as a means of avoiding or mitigating catastrophes, equalizing prices and providing for periods of want. It is true that the success of the strong induces imitation by the weak and that incompetent persons bring themselves to ruin by undertaking to speculate in their turn, but legislators and courts generally have recognized that the natural evolutions of a complex society are to be touched only by a very cautious hand and that such coarse attempts at a remedy for the waste incident to every social function as a simple prohibition and laws to stop its being are harmful and vain. This court has upheld sales of stock for future delivery." During the panic of 1907 there was a clamor against short selling which resulted in the appointment by Governor Hughes (now Chief Justice) of a commission which made an exhaustive study of short selling. In its report issued in 1909 the commission said: "We have been strongly urged to advise the prohibition or limitation of short sales, not only on the theory that it is wrong to agree to sell that which one does not possess, but that such sales reduce the market prices of the securities involved. We do not think that it is wrong to agree to sell something that one does not now possess, but expects to obtain later. "Contracts and agreements to sell, and deliver in the future, property which one does not posses at the time of the contract are common in all kinds of business. The man who has "sold short" must some day buy in order to return the stock which he has borrowed to make the short sale. Short sellers endeavor to select times when prices seem high in order to sell, and times when prices seem low in order to buy, their action in both cases serving to lessen advances and diminish declines of prices. "In other words, short selling tends to produce steadiness in price, which is an advantage to the community. No other means of restraining unwarranted marking up and down of prices has been suggested to us." Thus, under the language of the Supreme Court, short selling is a lawful practice. It is the expression of the business judgment of an individual or individuals in selling something where the belief exists that the prevailing price is too high to be warranted by existing conditions. This opinion is set off against that of the purchaser who believes that the price is warranted. We respectfully submit that existing laws and the rules of the Agricultural Department promulgated thereunder provide fully against any abuses which might conceivably creep into the present system. The exchanges have business conduct committees whose duty it is to cooperate with governmental agencies in the prevention of such abuses. This they have done for several years, and, in the interest of the protection of the members of the exchanges as well as of the public, they must continue to be vigilant and active. For more than a year, as is well known, the grain trade has been in a slump. To depart from the long and settled practice of short selling of grain at this time, when the amount of short selling of grain is negligible, would, in the judgment of the exchanges, be greatly prejudicial, not only to the trade itself, but to the interests of the farmers. Recently, under the influence of a big speculative market, grain prices advanced sharply. The exchanges can not take the responsibility of doing anything which would retard the present evidence of progress toward recovery or further to increase the hysteria that now overhangs all business activities, especially those being carried on in the markets. On the contrary, the exchanges conceive it to be their duty to do everything within their power to restore confidence. The grain exchanges confidently believe that an understanding of the situation will compel the conclusion that they can not, in the interest of the producer and the general public, make such a radical departure from a custom which has obtained since the organization of the exchanges as to prohibit socalled short selling. Mr. Chairman, I would like also to submit for the record a brief pamphlet prepared by Doctor Huebner, of the University of Pennsylvania, on this same subject, which will not occupy very much space, and I would like permission to have it inserted in the record, if I may. The CHAIRMAN. You may insert it in the record. (The pamphlet by S. S. Huebner, entitled "The Economic Value of Short Selling," is here printed in the record in full, as follows:) THE ECONOMIC VALUE OF SHORT SELLING (By S. S. Huebner, professor of insurance and commerce, Wharton School of Finance and Commerce, University of Pennsylvania) [Issued by Grain Committee on National Affairs] In times of economic stress we hear strong criticism of short selling. As prices of grains recede, the tendency is to train the searchlight of public opinion upon this phase of our valuable commodity marketing system. Much of the criticism of commodity short selling is ill-advised and based on misconception. Thus law-marking bodies are urged to take action helpful to the producer. Yet the records indicate clearly that laws unduly restricting futures markets are harmful, not helpful, to the farmer. Being injurious to the farmer, such laws are likewise a burden upon business and commerce in general. Most everyone is in agreement on one point. The futures markets, with their hedging or insurance feature are of high value to the producer. By hedging or insuring grain holdings in the futures market it is possible for the buyer to pay the farmer more than would be possible without such insurance facilities. Being insured against the risk of wide-price swings, the buyer of grain is able to work on a narrow margin as between producer and consumer. So the producer gets more, and the consumer pays less. And the danger of monopoly and the sins of secrecy are eliminated. A trade in futures is the purchase or sale of a contract to receive or to deliver a certain amount of grain in a certain specified month. A hedging or insurance transaction is one made in the futures market to protect the holder of actual grain against price swings pending final disposition of such actual grain. A short sale is the sale of a contract to deliver to the buyer during a specified month a certain amount of grain. The short seller may or may not at the moment be in possession of the grain he has contracted to deliver. But bear this point in mind. For every bushel of grain sold short the seller must buy back an equal amount. The short seller may be a miller, a country elevator man, an exporter, manufacturer, or a trader who is seeking to anticipate the future price trend. To have this highly desirable insurance feature of our commodity markets we must have both buying and short selling by those ever ready to assume the risks of price swings. The business man in the work of distributing our crops wishes to avoid speculative risks. He shifts such risks to the speculative element by means of hedging or insuring. If only the owners of actual grain were permitted to sell short, there would soon be an end to our futures markets. The reason is obvious. An insurance or hedging market must be broad and liquid. It must be continuous and able to instantly absorb large offerings. The purchases and sales of actual holders would not mesh at the precise time that trades were desired. But with a large speculative force ready at all times to assume the risks incident to ownership of a world commodity that is naturally subject to price variations, the insurance market functions smoothly and crops are evenly distributed over the world when free of attempts at artificial price stimulation. To have hedging, or price insurance, there must be a futures market; to have a futures market there must be both long buying and short selling, with free play of the forces which register the composite opinion as to world supply and demand. THE SERVICE OF TIME CONTRACTS On organized exchanges commodities are sold on future-delivery contracts, such as May or December wheat. Under the contract delivery must be made at the designated time and at the price agreed upon. Despite criticism, this practice is closely akin to modern business methods of, let us say, manufacturers, who accept orders long in advance of fulfillment and contract to deliver goods at a certain price. Business men seek a trade profit. They avoid gambling. Yet after they have contracted for the future delivery of finished goods, a great adverse change in raw-material prices may wipe out a trade profit or even cause bankruptcy. Such price variations in grain, cotton, and other raw materials are too dangerous for the business man. He turns to the futures market to insure against risk and to shift the risk to those who make risk-bearing a business. The hazard confronting him is quickly eliminated through purchase of a futures contract, either from some commodity owner or equally responsible short seller. In this way the manufacturer arranges delivery of his raw material at designated future monthly delivery periods suitable for his purpose, at prices quoted at time of purchase. These prices can be used in calculating the adequacy of the price offered him for the finished product. Reliance may be placed on these future contracts, as they are secured through the deposit of adequate funds, or margin, under exchange rules to assure fulfillment. NECESSITY OF HEDGING Hedging, or price insurance, is the practice of making two contracts of an opposite though corresponding nature at practically the same time, one in the trade market, where the physical commodity is handled, and the other in the speculative market furnished by commodity exchanges. A dealer in wheat, having purchased 10,000 bushels, may expect at best to make a gross trade profit of only a few cents a bushel in handling that grain. Yet a single day's price decline might wipe out his entire profit. He may be obliged to hold the grain for months. Millions upon millions of bushels must thus be held between harvest and consumption, in the face of records of vast price declines in a six or nine month period. What business man would welcome such risks, with the prospect of but a small trade profit, and when the original buying had been effected through loans? The fire hazard is small in comparison, and no sane business man would assume his own fire risks. Against the staggering risks of grain ownership there must be some means of insurance. And fortunately a fairly reliable method is now afforded by our speculative markets. Immediately on buying the 10,000 bushels in the trade market, the grain dealer will offset the same with a short sale of an equal amount in the futures market for delivery at some convenient future month. Henceforth, assuming a close relationship between prices in the futures and cash markets, the dealer is freed from the gamble of a severe price decline. He is always approximately even, whether the price rises or falls. If the price rises, he loses on the short sale what he makes on his actual holdings. But if the price declines he makes on his short sale an amount equal to the loss suffered on the wheat he owns. He is thus always substantially even as regards the wholesale price, no matter how low it may go, and to this he adds the customary trade profit of a few cents, which he seeks to earn through the physical handling of the wheat. He assures his trade profit and avoids the risk of loss on price swings. When he sells the 10,000 bushels in the trade market to some buyer he also immediately covers his short sale in the futures market. Both contracts are entered into at the same time and both terminated at the same time to avoid speculation. In some instances the trade transaction happens to be a short sale, in which case the hedging process is reversed; insurance is obtained in the futures market with the purchase of a futures contract. Such a wholesome practice should not be condemned. It is a necessity for all who actually handle commodities as a trade proposition and are obliged to retain ownership for any period of time. It is clear that by reason of the prctice middlemen can operate on a reasonably certain and therefore much smaller profit than would otherwise be possible, a factor beneficial to both producer and consumer. This is one of the outstanding services of all forms of insurance. The owner of a house could not afford to carry the fire risk himself for less than at least 5 per cent of the value for a year, and even then would be gambling. The tenant would be obliged to assume that heavy extra charge in his rent. But with fire insurance in existence the cost of risk assumed by the owner does not exceed one-fourth of 1 per cent in most communities. Moreover, creditors find the practice of hedging highly beneficial. They are willing to grant a much larger volume of credit at more favorable rates of interest. Just as the banking world refers to "insured paper," so increasingly we see reference to "hedged paper." The analogy is complete. All insurance is fundamentally the same. It is "hedging." The owner of a $10,000 building 90613-31-22 |