Fed Re-examines 2003 Approval of Banks’ Commodities Trading

The Federal Reserve, facing lawmakers’ criticism of Wall Street’s trading in physical commodities, said it’s reexamining a decade-old policy governing the firms’ activities.

The Fed “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,” Barbara Hagenbaugh, a spokeswoman for the central bank, said today in a statement. She declined to elaborate.

U.S. senators will hold a hearing next week as lawmakers explore whether financial firms such as Goldman Sachs Group Inc. (GS) and Morgan Stanley (MS) should continue to be allowed to store metal, operate mines, broker electricity and ship oil. Lawmakers have expressed concern that banks’ involvement in both the supply of materials and related financial products, such as derivatives, may lead to manipulation.

In a landmark decision in 2003, the Fed let Citigroup Inc. (C) continue making transactions in physical commodities after finding them complementary to the firm’s trading and investing in financial instruments. The New York-based bank otherwise would have been forced to divest its Phibro energy-trading unit to comply with a federal rule banning banks from dealing directly in materials and fuel.

Falling Revenue

The subsidiary, once known as Philipp Brothers, was part of the Salomon Brothers investment bank acquired by Travelers Cos. in 1997. Travelers merged with Citigroup in 1998. While Citigroup agreed to sell Phibro to Occidental Petroleum Corp. (OXY) in 2009, other Wall Street banks also have been allowed to make trades in physical commodities.

Commodities revenue at the 10 largest banks amounted to about $6 billion last year, down from $8 billion in 2011, amid low volatility and client flows, according to a Feb. 15 report from London-based analytics company Coalition. Increasing concerns that regulation and capital rules are stiffening also led banks to re-examine commodity strategies, it said.

Spokesmen for New York-based Goldman Sachs, Morgan Stanley and JPMorgan Chase & Co. (JPM) declined to comment on the Fed’s review.

To contact the reporters on this story: Bob Ivry in New York at bivry@bloomberg.net; David Scheer in New York at dscheer@bloomberg.net

To contact the editor responsible for this story: David Scheer at dscheer@bloomberg.net

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