It looks like the press and regulators are taking a closer look at banks and their relationships with commodities. Nearly every day last week there was a different story about prices, storage or regulation.
Bloomberg had a story about regulators looking into banks’ commodities trades after complaints:
When the Federal Reserve gave JPMorgan (JPM) Chase & Co. approval in 2005 for hands-on involvement in commodity markets, it prohibited the bank from expanding into the storage business because of the risk.
Five years later, JPMorgan bought one of the world’s biggest metal warehouse companies.
While the Fed has never explained why it let that happen, the central bank announced July 19 that it’s reviewing a 2003 precedent that let deposit-taking banks trade physical commodities. Reversing that policy would mark the Fed’s biggest ejection of banks from a market since Congress lifted the Depression-era law against them running securities firms in 1999.
“The Federal Reserve regularly monitors the commodity activities of supervised firms and is reviewing the 2003 determination that certain commodity activities are complementary to financial activities and thus permissible for bank holding companies,” said Barbara Hagenbaugh, a Fed spokeswoman. She declined to elaborate.
That reconsideration comes as a Senate subcommittee prepares for a July 23 hearing to explore whether financial firms such as Goldman Sachs Group Inc. and Morgan Stanley (MS) should continue to be allowed to store metal, operate mines and ship oil. At a time when JPMorgan faces a potential fine for alleged manipulation of U.S. energy prices, the panel will discuss possible conflicts of interest in the business model, said its chairman, U.S. Senator Sherrod Brown, an Ohio Democrat.
The Sunday New York Times had an extensive piece on banks making money from storing and moving commodities, in particular aluminum. The lead of the story talked about a Goldman Sachs warehouse and how they moved products from one storage facility to the next:
The maneuvering in markets for oil, wheat, cotton, coffee and more have brought billions in profits to investment banks like Goldman, JPMorgan Chase and Morgan Stanley, while forcing consumers to pay more every time they fill up a gas tank, flick on a light switch, open a beer or buy a cellphone. In the last year, federal authorities have accused three banks, including JPMorgan, of rigging electricity prices, and last week JPMorgan was trying to reach a settlement that could cost it $500 million.
Using special exemptions granted by the Federal Reserve Bank and relaxed regulations approved by Congress, the banks have bought huge swaths of infrastructure used to store commodities and deliver them to consumers — from pipelines and refineries in Oklahoma, Louisiana and Texas; to fleets of more than 100 double-hulled oil tankers at sea around the globe; to companies that control operations at major ports like Oakland, Calif., and Seattle.
The story also spelled out how banks make money on commodities, an important consideration to remember when writing about the space:
By controlling warehouses, pipelines and ports, banks gain valuable market intelligence, investment analysts say. That, in turn, can give them an edge when trading commodities. In the stock market, such an arrangement might be seen as a conflict of interest — or even insider trading. But in the commodities market, it is perfectly legal.
“Information is worth money in the trading world and in commodities, the only way you get it is by being in the physical market,” said Jason Schenker, president and chief economist at Prestige Economics in Austin, Tex. “So financial institutions that engage in commodities trading have a huge advantage because their ownership of physical assets gives them insight in physical flows of commodities.”
Some investors and analysts say that the banks have helped consumers by spurring investment and making markets more efficient. But even banks have, at times, acknowledged that Wall Street’s activities in the commodities market during the last decade have contributed to some price increases.
The Financial Times wrote this piece about how the Federal Reserve is questioning whether banks should own physical commodities, something that will make trading them less profitable for large firms:
Wall Street banks’ rise as merchants of oil, natural gas, coal and industrial metals is under threat as a US regulator revisits a string of permits for trading physical commodities issued over the past decade.
Senior officials at the Federal Reserve have in recent weeks discussed with bank executives the question of whether to bar banks from owning physical commodity assets, according to people familiar with the talks.
A move to curtail the freedom to ship tankers of oil or fill pipelines with gas could pressure a historically lucrative niche for banks including Barclays, Goldman Sachs, JPMorgan Chase and Morgan Stanley. JPMorgan spent $1.6bn just three years ago to acquire the global oil, metals and coal divisions of RBS Sempra Commodities in an explicit push into physical trading.
US law allows banks to trade commodity derivatives such as futures contracts. In 2003, the Fed expanded this authority by granting Citigroup permission to also own the tangible oil, gas and grains underlying derivatives. Several other banks then received similar approvals through 2008.
These permits are now under question. “The Federal Reserve regularly monitors the commodity activities of supervised firms and is reviewing the 2003 determination that certain commodity activities are complementary to financial activities and thus permissible for bank holding companies,” the Fed said.
In another sign of mounting scrutiny, a US Senate subcommittee is scheduled on Tuesday to hold a hearing on banks’ involvement with power plants, oil refineries and warehouses.
Earlier in the week, JPMorgan Chase was reportedly looking to settle with regulators over commodities-related accusations of price manipulation:
JPMorgan Chase, the Wall Street giant whose reputation in Washington has eroded in a matter of months, is now moving to avert a showdown over accusations that it manipulated energy prices.
The nation’s largest bank, which has previously clashed with its regulators, is seeking to settle with the federal agency that oversees the energy markets, according to people briefed on the matter. The regulator, the Federal Energy Regulatory Commission, found that JPMorgan devised “manipulative schemes” that transformed “money-losing power plants into powerful profit centers,” a commission document said.
The potential deal, the people said, is expected to cost the bank about $500 million, a record for the commission, which has adopted a harder line with Wall Street over the last year. For JPMorgan, which reported a record $6.5 billion quarterly profit last week, the fine will hardly dent the bottom line.
Covering commodities markets remains an important part of business news and one that touches everyone globally. Any new regulations will be important not only for banks and their bottom lines, but also for consumers of – well, everything.
