U.S. financial regulators will boost scrutiny of banks' commodities holdings and use their authority to pursue evidence of fraud and manipulation, the heads of two agencies told lawmakers.
"We're a market regulator overseeing the commodity futures, swaps markets and have clear authority to police markets for fraud, manipulation, and other abuses," Commodity Futures Trading Commission (CFTC) Chairman Gary Gensler said at a Senate Banking Committee hearing, where he testified yesterday alongside Securities and Exchange Commission Chairman Mary Jo White. "We will use those authorities appropriately where we see abuses and pursue it."
Gensler and White, who said she would ask the SEC staff to weigh changes to disclosure requirements, responded to questions raised by Senator Sherrod Brown about whether markets and consumers are being harmed under rules that permit lenders including JPMorgan Chase & Co. to own and trade commodities. New York-based JPMorgan, the biggest U.S. bank, agreed yesterday to pay $410 million over claims that it manipulated power markets in 2010 and 2011.
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"It seems like there's a huge amount of conflict of interest and a huge amount of market manipulation, and it doesn't seem like much action," Senator Jeff Merkley, an Oregon Democrat, said in a follow-up to questions from Brown, an Ohio Democrat. "When these prices go up, it's a huge tax on the economy, whether it's in the price of a beer can or aluminum siding."
Revenue Generator
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 Group Inc. ranked No. 1 in all commodities revenue, including derivatives, followed by JPMorgan.
Goldman Sachs and Morgan Stanley were in the commodity business before converting to bank holding companies during the 2008 credit crisis. The New York-based companies are permitted under a 1999 law to keep commodities businesses they were in before 1997.
The Federal Reserve said this month that it will review a decade-old decision letting banks trade commodities seen as complementary to banking. JPMorgan said on July 26 that it will sell or spin off commodity holdings including warehouses, stakes in power plants, and traders of gas and coal.
Gensler, declining to comment on specific investigations, said his agency has legal authority to pursue manipulation of markets for metals and other commodities. His agency has sent letters to companies asking them not to destroy documents relating to warehouses registered by exchanges such as the London Metal Exchange or Chicago Mercantile Exchange, according to a copy of the letter obtained by Bloomberg.
Goldman Sachs in February 2010 bought Romulus, Michigan-based Metro International Trade Services LLC, which as of July 11 operated 34 out of 39 storage facilities licensed by the LME in the Detroit area, according to LME data. Since then, aluminum stockpiles in Detroit-area warehouses surged 66 percent and now account for 80 percent of U.S. inventory monitored by the LME and 27 percent of total LME stockpiles, exchange data from July 18 show.
The CFTC should undergo further review of the LME to preserve market integrity, Senator Debbie Stabenow, a Michigan Democrat and chairman of the Senate Agriculture Committee, said in a letter to Gensler today. Stabenow asked the agency to describe its oversight and the status of a 2001 CFTC letter allowing LME to access U.S. customers.
White said that she recently asked staff at the SEC to examine questions regarding disclosure of information about the markets. "I am looking into that and the range of possible disclosure issues that could be involved as well," she said.
'Undue Risk'
Brown has 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."
Senator Carl Levin, the Michigan Democrat who leads the Permanent Subcommittee on Investigations, has conducted reviews that faulted Goldman Sachs for its trading of mortgage-backed securities before the credit crisis and JPMorgan over derivatives trading losses. He said his panel, which has subpoena power, has been looking at the commodities issue for at least six months.
"The potential here for conflicts of interest and manipulating prices to benefit their own proprietary holdings is huge, and it's a very, very serious issue," Levin said in an interview on July 23.
The Senate hearing came less than a month after the London Metal Exchange announced a plan to speed up withdrawals at sites with long queues, which industrial metals consumers including Encore Wire Corp. and MillerCoors LLC say have squeezed availability of copper and aluminum. Backlogs have grown as more metal gets tied up in so-called financing deals, which typically involve the purchase of metal for nearby delivery and a forward sale to take advantage of a market contango, where prices rise into the future.
The LME has a network of more than 700 warehouses worldwide, the exchange's website shows. Copper stockpiles in Johor, Malaysia; New Orleans and the Belgian city of Antwerp have almost quadrupled this year and hold about 90 percent of the total, according to LME data compiled by Bloomberg.
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