US Fed to review rule on bank trades in commodities
22 Jul 2013
Federal Reserve approval in 2005 for JP Morgan Chase & Co's hands-on involvement in commodity markets, did not come as a blank cheque, rather it came with the express condition against expansion into the storage business due to the involved risks.
Five years later, though, the investment banker acquired one of the world's biggest metal warehouse companies.
While the Fed never explained why that was allowed to happen, the central bank announced on 19 July that it was reviewing a 2003 precedent that allowed deposit-taking banks to trade physical commodities.
According to commentators a reversal of policy would see the Fed's biggest ejection of banks from a market after Congress withdrew the Depression-era law against them running securities firms in 1999.
Barbara Hagenbaugh, a Fed spokeswoman said without elaborating that the Fed regularly monitored the commodity activities and was reviewing the 2003 determination that certain commodities were complementary to financial activities and thus permissible for banking.
That reconsideration would come up with a senate subcommittee preparing for a 23 July hearing to explore whether financial firms including Goldman Sachs Group Inc and Morgan Stanle should continue to be allowed to store metal, operate mines and ship oil.
The panel would discuss the issue in the backdrop of the lender facing a potential fine for alleged manipulation of US energy prices. The panel would discuss possible conflicts of interest in the business model, according to its chairman, US senator Sherrod Brown, an Ohio Democrat.
The Federal Reserve, in 2003 issued a letter to Citigroup, which had sought permission for letting its Phibro unit - acquired in 1998 - to continue trading in physical energy markets. Under the Bank Holding Company Act (BHC Act), commercial banks were barred from engaging in non-financial activities, however, Citi had argued for the continuance of the activities.
Regulated commercial banks had long been permitted to trade in commodity derivatives such as futures, but at the time did not enjoy the same freedom in physical markets, unlike investment banks like Goldman Sachs and Morgan Stanley.
The Fed agreed with Citi, saying that trading in real commodities would allow the banks to "transact more efficiently with customers". It said the trading must be "complimentary" to their main activities, contribute to the public good and should not pose a "substantial risk" to the bank.
With the decision, which came at the start of a decade-long boom in commodity trading, a dozen more applications came from global giants like Deutsche Bank and domestic players like Wells Fargo. With many of the permits, the Fed gave the players increasing room as to what and how they traded.
