In earlier days, the commodities markets were dominated by large trading houses and a small percentage of speculators. The trading houses used the markets to buy and sell their products and hedge their risks.

Now the world of commodities is completely different . Hedge funds, pension funds and mutual funds are a growing force in market participation. This year alone, contracts held by investors rose by 12% through October and are 17% higher than June 2008, as reported by the Wall Street Journal (subscription required).

Interest rates are the top concern among global financial services firms in the pension risk management business.

According to a new survey by Aon's (AON) human capital arm, 58% of the big players in the pension risk management space cite this factor as the biggest issue facing defined benefit pension plan sponsors from the present to 2013. Longevity risk is next, with 21% of the responses, followed by equity markets at 15% and inflation at 6%.

States are facing a shortfall of $1 trillion to pay for pension and health care to retirees, according to the Pew Center. Orin S. Kramer, chairman of the New Jersey Investment Council, told Bloomberg the number is closer to $2 billion.

Whether it's $1 trillion or $2 trillion, the problem is gigantic. What this means is that states must raise the cash to cover any shortfall. According to the Pew Institute, states have saved $2.35 trillion and owe $3.35 trillion.

Here are the states which owe the most:

The odds that you'll have a long, healthy life are better than ever ... and that creates a pretty hefty problem for pension funds. They need to find new ways to meet their obligations in a turbulent market, and the risk that you'll hang on forever is approaching every day. So, unless we're able to pass legislation encouraging mass suicide among the Baby Boomers (it's a joke, people, read Christopher Buckley's Boomsday to see how it shakes out), pension fund managers have a hefty dose of risk to offload -- fast. They're looking at the insurance-linked securities market as a way to handle the problem.

All joking aside, pension funds and insurers are translating to total pension liabilities of $19 trillion in the U.S. and $3 trillion in the UK, according to a Reuters report using data from International Financial Services London. And, an increase in longevity by one year could translate into a 3% jump in liabilities. Put simply, the IFSL's data means another $600 billion in the U.S. and $90 billion in the UK. Basically, everything we do to stick around longer (not that I'm discouraging it) leads to a higher and higher price tag.

The catastrophe bond market will be heating up over the next few months, thanks to a combination of favorable market conditions and new investors. Michael Halsband, Vice President at Goldman Sachs (GS), said to Reuters that the cat bond issuance market got off to an early start in January, despite the fact that the first quarter is usually rather quiet. This follows the recent closing of the year's first cat bond, Foundation Re III, by The Hartford (HIG).

According to Halsband, "From January to June this year, $2.7 billion of transactions will mature and most of that is expected to be placed straight back into the ILS [insurance-linked securities] sector," continuing, "In addition, we believe between $1.5 and $2.5 billion of new capital has flowed into dedicated ILS funds and along with the $2.7 billion of maturities. Around $5 billion will be available to be put to work in the cat bond sector."

Its sights set on the United States and Asia, South Korea's $30 billion sovereign wealth fund is hunting for equities. Korea Investment Corp. (KIC) doesn't see bonds outperforming stocks over the long term, which is what has prompted the move.

Once the reallocation is executed, equities will account for half of KIC's "traditional" investments. Today, it stands at 40%. High quality equities and fixed income securities comprise 90% of KIC's portfolio, with the rest, one would gather, consisting of "non-traditional" investments.

Three separate requests filed in Indiana by pension funds and consumer groups have asked the U.S. Supreme Court to stop the sale of Chrysler to a group led by Fiat. The groups filing the complaints hope to buy some time while challenging the deal. Some believe that this case could set a precedent for General Motors, which is trying to employ a similar "quick-sale" strategy as Chrysler. Late Friday, an appeals court stayed the closing of the sale until this afternoon, which gave the pension funds and opponents the weekend to make their plea to the Supreme Court.

The three pension funds argued that the sale of Chrysler unlawfully rewarded unsecured creditors, like the union rather than secured lenders. The funds hold roughly $42 million of Chrysler's $6.9 billion in secured loans. Lawyers for the pension funds argued, "the need for the court to review the profound issues presented by Chrysler's novel bankruptcy sale far outweighs the cost of delaying [a sale]."

In order to end the two-year-old inquiry by New York Attorney General Andrew M. Cuomo into its pension business, the Carlyle Group has agreed to pay $20 million and make broad changes to its practices. Carlyle, one of the world's largest private equity firms, will no longer use intermediaries, known as placement agents, to secure investment business from public pension funds, and it will curb its campaign contributions to elected officials who oversee pension funds.

"This is a revolutionary agreement," Cuomo said Thursday. "I believe it totally changes the way people operate: It ends pay-to-play, it bans the selling of access, it puts the political power brokers out of business."

The Wall Street Journal reports (subscription required) that "The Securities and Exchange Commission is expected to propose a federal rule that would ban investment advisers from managing public pension-fund money after contributing to the campaigns of state pension fund overseers."

The move comes in response to several pension fund scandals that have emerged in recent months. New York Attorney General Mario Cuomo, along with the SEC, is investigating allegations that former state comptroller Alan Hevesi was effectively selling pension fund business.

More wonderful and weird tidings: Bain Capital, the brainiac Boston buyout fund, has hired salvage consultancy AlixPartners to extricate any remaining value from its bankrupt buy-out, Outback Steakhouse Incorporated. Outback is the originator of mega-calorie Blooming Onion, and is apparently too many calories for Bain, as the company reported a quarterly loss of a whopping $750 million.

Big grocery chain The Kroger Company (NYS: KR) reported strong earnings. That's the good news. The bad news? Growth was fueled by record growth in purchases by customers of its private label goods, which rose to a stunning 35% of total store purchases. Not only cat food, but white label cat food for the recession, people.

The New York Times Co. (NYSE: NYT) reported a fourth quarter profit decline of 48% yesterday, but that actually managed to top analysts' expectations and the stock moved up 6.79%.

But there could be more trouble for the company. The Wall Street Journal reports (subscription required) that the market meltdown "blew out the Times's unfunded pension obligation to $625 million from $48 million at the end of 2007. The new figure is a whopping 73% of the Times' market capitalization."

Unless the market makes a miraculous rebound reminiscent of the Boston Red Sox (which the Times is in the process of trying to sell its stake in) 2004 ALCS comeback. the Times will have to fund that obligation over the next seven years.

University endowments and pension funds for government employees and teachers are big investors in venture capital partnerships. Now, thanks to the decline in the stock market, these endowments and pension funds have too big a proportion of their portfolios invested in illiquid venture capital and private equity funds. So they are trying to sell those interests -- and I am guessing they will fail to do so or take big losses when they do.

Two of the biggest funds are above their limits. Consider the largest university endowment -- Harvard Management Company -- which had $36.9 billion as of June 30. Harvard has reportedly hired a bank to sell its private equity investments that make up 13% of its portfolio for fiscal year 2009. The largest state pension fund, Calpers, has a 10% target for private equity -- which includes venture capital and LBOs -- and because of falling stock values, its private equity share exceeds the target by 3%.

The forced sale of these private company ownership stakes is not good for the venture capital industry, which saw investment fall 6.9% in the third quarter. There might be some demand for the illiquid shares of venture-backed startups from corporate venture capitalists. But with an initial public offering market in hibernation and VCs telling their portfolio companies to cut way down on their burn rates, it looks like this largely lost decade for IT innovation will end with a nuclear winter.

Peter Cohan is President of Peter S. Cohan & Associates. He also teaches management at Babson College and edits The Cohan Letter.

As of midday Monday, the Dow had rebounded off early-session lows, but if investors / readers are thinking about entering this market now, caution is advised, for several reasons.

First, those familiar with technical analysis know that the Dow's rebound to a loss of 180 points to a level of about 11,233, up from a loss of more than 300 points, could be just short-covering.

Second, major unknowns exist regarding the financial system. And I mean major.

The fate of American Interational Group (NYSE: AIG) remains an enormous question mark. The largest insurer of assets, AIG may face a downgrade that would trigger a collateral call from debt investors who bought credit default swaps, a form of insurance for bonds. Further, if hedge and other institutional investors sense those swaps are not in force, they may seek swaps elsewhere and/or sell assets to reduce market risk / raise capital. That could spark a new round of stock selling. AIG's shares fell $5.33 to $6.81 in late Monday morning trading.

Start with a few speculative stocks. Add a distressed-debt corporate bond portfolio, and two quantitative-based hedge funds, and a momentum-based hedge fund for the British pound/Japanese yen currency pairing.

Sounds like a typical, assertive portfolio for a wealth management group or, perhaps, for an accredited investor.

But a public pension fund?

Public pension funds in the United States are increasing bets on high-risk hedge funds and real estate in an attempt to fill deficits in retirement plans and recover ground, due to the worst performance by pension funds in six years, Bloomberg News reported Thursday.

Public funds, which manage more than $2.45 trillion in assets, are trying to reverse losses averaging 5.5% for the year ended June 30, according to Merrill Lynch data, and stem the tide of deficits, Bloomberg News reported. The State of New York's comptroller is asking its Legislature to increase its alternative investment spending cap; in February, the State of South Carolina upped its alternate investment / private equity / real estate cap to 45% from 0%.

'Investment distortions of the very worst sort'

Economist Glen Langan told BloggingStocks Thursday he doesn't like the sound of the new stance by state / local governments, if the aforementioned represents a trend.

"I view it as another manifestation of the U.S. stock market slump," Langan said. "The underperformance of stocks and the drive for outsized return on equity is leading to investment distortions of the very worst sort. We saw this in the mortgage market with their securities. It got to a point that if the interest rate was high enough, banks made the loan. We've seen it in oil, where the unattractiveness of stocks led institutions to dive into oil futures, driving up prices well above historic gains. And now it looks like public pension funds are catching the bug or flu."

Add another case study to the controversy over speculators and market manipulation.

The Commodity Futures Trading Commission is investigating whether cotton prices were 'artificially inflated' in early March, The Wall Street Journal reported Wednesday (subscription required). The March 4 price spiked from about 70 cents per pound to an intra-day high of $1.09 and closed at 93.1 cents.

In Wednesday morning trading, cotton rose about four-tenths of one cent to 70.070 cents per pound.

The Journal reported that the price spike in early March was unusual and baffled traders because cotton inventories were at their highest level in four decades, towel and fabric demand was weakened by the housing slump, and global supplies were high.

On the other side of argument, one which argues that market forces set the price, some cotton merchants themselves were trading aggressively; a little-used exchange rule suddenly required merchants to unwind sell orders; and financial investors, including pension and hedge funds, started to enter the market, which generated an eight-fold jump February 19-26 in net buying, The Journal reported, citing CFTC data.