The Federal Reserve is poised to take a preliminary step toward limiting banks’ involvement with physical commodities amid congressional scrutiny, according to three people briefed on the discussions.
The Fed is planning to release as soon as today a notice seeking information on ways to curb ownership and trading of commodities such as oil, gas and aluminum by deposit-taking banks, said the people, who requested anonymity because the talks are private. Lawmakers have said dealing in commodities could create conflicts of interest and lead to market manipulation by deposit-taking institutions.
A Senate Banking subcommittee has set its second hearing on the issue for tomorrow. Senator Sherrod Brown, the Ohio Democrat who leads the financial institutions and consumer protection panel, has been a leading voice in raising concerns over the potential for abuses when banks own and trade both physical commodities and instruments tied to them.
The Fed is weighing whether to extend legal and regulatory exemptions that allow banks to participate in the commodities markets, a person briefed on the process said in October. Barbara Hagenbaugh, a Fed spokeswoman, declined to comment.
U.S. law restricts banks from owning non-financial businesses unless they get special exemptions. Goldman Sachs Group Inc. and Morgan Stanley (MS) were the two biggest U.S. securities firms until they converted into bank holding companies in 2008. A 1999 law “grandfathers” any commodities operations the two companies had before Sept. 30, 1997.
“When, during the crisis, Morgan Stanley and Goldman Sachs were converted to banks, to give them access to the Fed window and prevent them from being victims of liquidity runs, the Fed was tasked with considering which of Morgan Stanley and Goldman Sachs’s commodity businesses would be grandfathered,” said Joshua Rosner, managing director at Graham Fisher & Co. “It looks like senior staff at the Board will probably use Wednesday’s Senate hearing as another chance to hit the snooze button.”
The Fed said in July that it’s reconsidering a 2003 decision to grant some lenders, such as Citigroup Inc. and JPMorgan Chase & Co. (JPM), permission to expand into raw materials.
Banks have already announced plans to exit parts of the business. Bank of America Corp. said on Jan. 7 that it would exit power and natural-gas markets in Europe. Morgan Stanley agreed in December to sell a unit that stores and transports oil products to a subsidiary of Moscow-based OAO Rosneft. (ROSN) The sale of the global oil merchanting business is expected to be completed this year, New York-based Morgan Stanley said in a statement.
JPMorgan, whose commodities units are overseen by Blythe Masters, said in July it may exit businesses after the Fed announced its review. The largest U.S. bank could sell or spin off holdings including warehouses, stakes in power plants and trading in materials such as gas and coal. The New York-based company said it will continue trading commodity derivatives as well as storing and trading precious metals.
The Fed is soliciting comments and other input before regulators take a position on a potential rule. The Fed has issued such preliminary notices before, including for a credit-ratings rule in 2010 and capital rules in 2003. After gathering outside views, the agency could then propose a rule and open that for comments, too, before issuing a final version.
Commodity trading revenue at the 10 largest global investment banks fell 18 percent in the first nine months of 2013 to $4 billion, industry analytics firm Coalition Ltd. said in a report this month.
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