US Fed wants to curtail banks’ affairs with metals, coal and oil
GOLDMAN Sachs Group and Morgan Stanley’s sometimes lucrative romance with metals, coal and oil could become prohibitively expensive under a rule proposed on Friday by the Federal Reserve.
The long-awaited regulation would require banks to put up much more capital to support investments in physical commodities, restrict ownership of power plants and limit the amount of trading banks can do.
While the Fed doesn’t have the power to sever banks’ ties to physical commodities, it is seeking massive capital increases for firms – especially Goldman Sachs and Morgan Stanley – that have been permitted to stay in those businesses based on special legal exemptions.
Fed officials estimated that the proposal would mean about $4 billion (R54.70bn) in additional capital for financial firms’ current activity.
Financial risks
“The proposal would help reduce the catastrophic, legal, reputational, and financial risks that physical commodity activities pose to financial holding companies,” the Fed said. What’s unstated is that the proposal also addresses years of criticism that banks could seize unfair advantages in metal and energy markets by owning hard assets and operating huge trading desks at the same time.
The proposal comes on the heels of a Fed recommendation made earlier this month that big banks should be barred from buying stakes in non-financial companies – a removal of merchant-banking abilities that Congress would have to initiate. Merchant banking will also face higher capital requirements.
Together, the recommendations are part of the central bank’s broad goal to rein in how Wall Street invests its money outside of traditional lending. The effort stems in part from a 2014 Senate investigation that probed the industry’s sometimes controversial dealings in physical commodities, such as operating mines, warehousing aluminum and shipping oil.
That Senate probe accused Goldman Sachs, Morgan Stanley and JPMorgan Chase of using their ownership of metals and other physical commodities to dominate markets and gain unfair investing advantages. The physical commodities businesses at Goldman Sachs and Morgan Stanley were protected by grandfathering that allowed them wider abilities than most banks – an advantage the Fed is seeking to curtail by putting a 1 250 percent risk weight on the assets they could hold.
The 1 250 percent risk weighting basically means about $1 in capital would be needed for every $1 in investment.
For banks other than those eligible for grandfathering, they’ll face 300 percent risk weighting for physical commodities – meaning they’d have to maintain triple the capital a bank needs to back up construction loans or corporate debt, for instance. The agency said it is aiming for a “level of capitalisation for such activities that is roughly comparable to that of nonbank commodities trading firms.”
Meanwhile, banks that were once big players in physical commodities have shied away. Morgan Stanley sold off its oil business last year and backed away from industrial metals trading, and JPMorgan shed a big part of its physical commodities business in 2014.
‘Core’ part
While Goldman Sachs dumped a coal-mining operation in 2015, chief executive Lloyd Blankfein has maintained that commodities trading is a “core” part of his firm’s business.
Last year, Fed governor Daniel Tarullo argued in congressional testimony that a few big banks’ ownership of raw materials appeared to break through the wall between banking and commerce in a way that made the financial firms vulnerable to unique liabilities – such as from a catastrophic oil spill. His agency reiterated on Friday that the “possibility of an environmental accident due to these activities presents significant risks to the firms.” – Bloomberg