May 20 (Bloomberg) -- The chairman of a Senate oversight committee said he is considering legislation limiting large institutional investors in commodities markets that have seen record prices this year in agricultural products and oil.

The legislation would be aimed at speculators and other investors who use commodities as a way to hedge against swings in other investment instruments such as stocks and the U.S. dollar, said Joseph Lieberman, chairman of the Senate Homeland Security and Government Affairs Committee, at a hearing today.

Crude oil reached $129.60 a barrel today, the highest ever, and has almost doubled in the past 12 months. Wheat, corn, soybeans and rice have all reached records this year on the Chicago Board of Trade, feeding food inflation. The Reuters/Jefferies CRB Index of 19 commodities surged 31 percent in the year ended April 30.

``We may need to limit the opportunity people have to maximize their profits because a lot of the rest of us are paying through the nose, including some who can't afford it,'' said Lieberman, a Connecticut independent.

The plunging value of the dollar, the U.S. housing crisis and widespread problems in the banking sector have led investors away from traditional instruments and toward commodities, witnesses said.

Jeffrey Harris, the chief economist for the Commodity Futures Trading Commission, said it was clear that there were more institutional investors in commodities. He said they have not systematically driven up prices.

`Supply and Demand'

Prices ``are being driven by powerful fundamental market forces and the laws of supply and demand,'' Harris told the committee.

Michael Masters, portfolio manager for Masters Capital Management LLC, told the lawmakers that investors are buying up commodities and holding their positions, creating an artificial premium. Assets allocated to commodity index trading strategies rose to $260 billion as of March, from $13 billion at the end of 2003, he said.

Senator Claire McCaskill, Democrat of Missouri, said the CFTC may be failing to adequately police this speculative investing and tighter regulations may be needed.

`Pitchforks'

``The people of America are about to pick up pitchforks'' as rising food costs pinch consumer budgets, she said.

The U.S. Department of Agriculture said yesterday it expects food prices to rise as much as 5.5 percent this year, up from an earlier forecast of 5 percent and the fastest increase since 1989.

The CFTC's Harris cautioned against a hasty reaction to recent volatility in commodity markets.

``Diminishing the ability of futures markets to serve their hedging and price-discovery functions would likely have negative consequences for commerce in commodities and ultimately for the nation's economy,'' Harris said.

Masters, of Masters Capital Management, said the CFTC is turning a blind eye toward market-distorting speculation.

``Institutional investors are one of, if not the primary, factors affecting commodities today,'' he told the committee. ``As money pours into the markets, two things happen concurrently: the markets expand and prices rise,'' he said.

A report today by Greenwich Associates argued that surging commodity prices reflect rising involvement of speculative investors.

The Greenwich, Connecticut-based researcher said a third of those investors have been in the markets for less than three years. Goldman Sachs Group Inc. and Morgan Stanley top the rankings of derivatives dealers, followed by Barclays Capital Group and JPMorgan Chase & Co.

Masters proposed that the government prohibit commodity index investing as a vehicle for pension funds, curtail swaps trading and reclassify some positions to distinguish between legitimate physical hedgers and speculators.

To contact the reporters on this story: Daniel Whitten in Washington at dwhitten2@bloomberg.netAlan Bjerga in Washington at abjerga@bloomberg.net.

Last Updated: May 20, 2008 16:49 EDT