JPMorgan Chase & Co. (JPM) said it plans to get out of the business of owning and trading physical commodities ranging from metals to oil, three days after a U.S. Senate panel questioned whether banks are abusing their ownership of raw materials to manipulate markets.
The announcement also comes as JPMorgan negotiates a settlement with the Federal Energy Regulatory Commission that may include a $400 million fine and other penalties, according to a person familiar with the negotiations.
JPMorgan, the largest U.S. bank, could sell or spin off holdings that include warehouses, stakes in power plants and traders in materials such as gas, power and coal. The company estimated the value of its physical commodities at $14.3 billion as of March 31, a company filing shows.
“We considered many different factors, including the impact of potential new rules and regulation,” said Brian Marchiony, a spokesman for the firm.
U.S. banks are facing political and regulatory pressure over their global commodities businesses. The Federal Reserve said July 19 that it will review a decade-old decision that physical commodities are “complementary” to banking, which let banks including JPMorgan and Citigroup Inc. expand into the business.
Goldman Sachs Group Inc. and Morgan Stanley, which were in the commodity business before converting to banks in 2008, are permitted under a 1999 law to keep commodities businesses they were in before 1997. All four companies are based in New York.
JPMorgan’s commodities unit, led by Blythe Masters, 44, employs about 600 people around the world and also trades derivatives and lends to companies and projects. The firm said it “will remain fully committed to its traditional banking activities in the commodity markets, including financial derivatives and the vaulting and trading of precious metals.”
Physical commodities trading “is where it becomes more controversial,” said Brad Hintz, a bank analyst with Sanford C. Bernstein & Co. in New York. “Is that necessary in order to be a player on the risk side, is it necessary for the financing?”
Some lawmakers and customers have said banks can take advantage of their multiple roles to manipulate prices and get an information edge. They’ve also warned a catastrophe involving a bank-owned supertanker or power plant could jeopardize a lender’s health and leave taxpayers on the hook for a bailout.
U.S. Senator Sherrod Brown, the Ohio Democrat whose Senate subcommittee heard this week from witnesses about the potential risks caused by allowing banks to hold physical commodities, said the Fed needs to give clear guidance on what activities should be allowed “and consider placing limitations on those that expose banks and taxpayers to undue risk.”
“Banks should focus on core banking activities,” Brown said yesterday in an e-mailed response to JPMorgan’s statement. “Our economy is strengthened when financial conflicts of interest and financial risk are reduced.”
The Department of Justice has sent letters to at least two firms, seeking information for a preliminary inquiry into complaints that companies involved in metals storage may have inflated prices, Reuters reported earlier this week. It cited unidentified people who didn’t name any of the recipients.
JPMorgan said it plans to continue running the physical commodities unit “as a going concern and fully support ongoing client activities” while it weighs other options. One possibility is a strategic partnership, the bank said.
The announcement is a turnaround for JPMorgan, which spent the last five years building its commodities trading business, beginning with its 2008 acquisition of Bear Stearns Cos. that included an energy-trading platform.
JPMorgan expanded that business in 2010 when it spent $1.7 billion to buy parts of commodities trader RBS Sempra, a joint venture between Royal Bank of Scotland Group Plc and Sempra Energy. (SRE) That deal brought the Henry Bath metals warehousing unit to store physical commodities.
The physical commodities business contributes 5 percent to 10 percent of the company’s revenue from fixed-income, currencies and commodities trading, Deutsche Bank AG analysts estimated in a research note yesterday after a meeting with JPMorgan Chief Executive Officer Jamie Dimon, 57. That amounts to between $750 million and $1.5 billion of JPMorgan’s $15.4 billion in FICC trading revenue in 2012.
“The impact from potential physical commodities regulation is unlikely to be meaningful,” the analysts led by Matt O’Connor wrote in the research note. “From an earnings point of view, we believe any related give-up would be modest.”
The company is in negotiations over a settlement with FERC, which has accused a JPMorgan unit of extracting excessive payments from state energy authorities in California and Michigan, according to the New York Times.
The FERC revoked a JPMorgan energy-trading unit’s right to trade power for six months in November after accusing the firm of providing misleading information to regulators. The suspension, which took effect in April, marked the first such sanction for an active market participant.
The firm began a review of its physical commodities business several months ago, according to a person familiar with the matter. Michael Cavanagh and Daniel Pinto, co-chief executive officers of the corporate and investment bank, suggested in February that changes may be coming to the physical commodities unit.
In building up the commodities business, JPMorgan has “focused on our client franchise, but one where with changes in regulation, particularly around the physical side, we’ll be making sure we optimize that business for the new world we’re in,” Cavanagh told investors at a Feb. 26 meeting at the company’s New York headquarters.
The 10 largest Wall Street banks generated about $1 billion from physical commodity units in 2012, and about $5 billion from commodity derivatives and financing, according to data from analytics company Coalition Ltd. Goldman Sachs ranked No. 1 in all commodities revenue, including derivatives, followed by JPMorgan.
Goldman Sachs held $7.7 billion in physical commodities and Morgan Stanley had $6.7 billion, according to filings. Spokesmen for those firms declined to comment on JPMorgan’s announcement.
“This whole area of banks owing the physical, warehousing and delivery mechanisms of commodities is one that policy makers need to thoughtfully consider, and soon,” Commodity Futures Trading Commission member Bart Chilton said yesterday in an e-mail. “Banks getting back to being banks and making loans to businesses and individuals seems like the best course of action. Perhaps that will happen without any policy changes, although I have definite doubts.”
Mary O’Driscoll, a spokeswoman for FERC, and Barbara Hagenbaugh, a spokeswoman for the Fed, declined to comment on JPMorgan.
To contact the reporter on this story: Dawn Kopecki in New York at firstname.lastname@example.org