Brown, Warren Urge Fed To Address Risks Associated With Bank Ownership Of Physical Commodities

As Federal Reserve Closes Comment Period, Senators Point to Expansion of Bank Ownership of Physical Commodities and Risks Posed to Safety of Our Financial System

WASHINGTON, D.C. – Today, U.S. Senators Sherrod Brown (D-OH) and Elizabeth Warren (D-MA) urged the Federal Reserve to address risks associated with financial holding companies’ ownership of physical commodities. As the Federal Reserve closes the public comment period on its advanced notice of a proposed rulemaking (ANPR), the senators urged the Fed to prohibit financial holding companies from owning physical assets.

“As a general matter, FHCs should be prohibited from owning physical assets like warehouses, pipelines, and tankers,” the senators wrote. “These activities pose significant safety and soundness, legal, and reputational risks to institutions.”

On January 1, 2014, the Board of Governors of the Federal Reserve System published an ANPR on the Bank Holding Company Act (BHCA) provisions enabling Financial Holding Companies (FHCs) under the Gramm-Leach-Bliley Act (GLBA) to engage in various physical commodities. The comment period was originally scheduled to close on March 14th, but the Board extended the deadline to April 16th in response to requests from industry groups.

With the public comment period for the rule closing today, the senators outlined significant concerns associated with FHCs’ expansion into activities that are commercial in nature, particularly their ownership of assets involved in the extraction, transportation, storage, and distribution of commodities and energy. They argued that commercial commodities and energy activities expose financial institutions, regulated by the Board, to unprecedented and unmanageable financial, legal, environmental, and reputational risks.

Brown, who chairs the Senate Banking Subcommittee on Financial Institutions and Consumer Protection, first shined a light on the physical commodities operations at bank holding companies (BHCs) in July 2013 and has held two hearings examining the impact of commodity ownership on financial markets. The hearings identified a number of regulatory challenges and safety and soundness risks associated with FHCs’ involvement in physical commodities and energy markets. Witness testimony discussed the important policy justifications for maintaining a legal separation between banking and commerce under the BHCA, identified potential safety and soundness risks associated with FHCs’ direct ownership of physical commodity assets, and outlined the legal and regulatory context behind the erosion of the legal wall separating banking and commerce over the last two decades.

In October 2013, Brown and Warren sent a letter to the London Metals Exchange (LME) regarding its proposed changes to rules governing industrial metals trading. According to a July 20th report in The New York Times, "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." While the United States once separated banking from traditional commerce, today’s banks are now allowed to engage in a variety of non-financial activities, such as owning oil pipelines and tankers, electricity power plants and metals warehouses. Today, the six largest U.S. BHCs have 14,420 subsidiaries, only 19 of which are traditional banks.

A full copy of Brown’s and Warren’s letter sent today to the Federal Reserve can be found here.

http://www.brown.senate.gov/newsroom/press/release/brown-warren-urge-fed-to-address-risks-associated-with-bank-ownership-of-physical-commodities

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Fed Chair Janet Yellen said in a February House hearing that the central bank would review the industry comments and pledged to make changes in its oversight of banks’ role in commodities.

JPMorgan Chase & Co. (JPM:US), Morgan Stanley and Bank of America Corp. have announced plans to sell portions of their commodities business. The Fed’s action could increase pressure on Goldman Sachs to exit the physical commodities business.

‘Core’ Business

Goldman Sachs Chief Executive Officer Lloyd C. Blankfein said in September that the bank’s physical commodities unit is a “core” business that provides crucial service to clients.

Federal law restricts banks from owning a non-financial business unless they get special exemptions. Goldman and Morgan Stanley, the biggest U.S. securities firms until they became bank holding companies during the 2008 credit crisis, were granted grandfathered exemptions for commodities operations under a 1999 law.

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http://www.businessweek.com/news/2014-04-16/senators-urge-fed-to-ban-bank-ownership-of-physical-commodities

Wall Street banks, facing tighter scrutiny from regulators, are moving to get out of the business of physical commodities trading.

On Wednesday, JPMorgan Chase took a big step in that direction, announcing that it had agreed to sell its physical commodities trading unit to the Mercuria Energy Group, a rapidly growing Swiss trading firm, for $3.5 billion in cash.

The Volcker Rule, part of the sweeping Dodd-Frank financial regulatory overhaul, restricts the ability of banks to trade for their own accounts. That extends to limits on some commodities trading.

The Federal Reserve is also considering limiting banks’ commodities activities to try to reduce their exposure to a potential source of instability.

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http://dealbook.nytimes.com/2014/03/19/jpmorgan-to-sell-commodities-unit-for-3-5-billion