JPMorgan has not ‘exited physical commodities’ despite sale

JPMorgan Chase has not abandoned physical commodities in spite of increased scrutiny from regulators and politicians, and will continue to finance metals and crude oil as it battles to keep its market leading position in raw materials.

In an interview with the Financial Times, John Anderson and Michael Camacho, co-heads of global commodities at JPMorgan, said the bank was still in physical markets after selling a large chunk of its commodities business to rivals and Mercuria, the Swiss trading house, but with a different intensity and focus.

“It’s a bit of a misnomer to say we have exited physical commodities. What we have exited is position taking and the logistical aspects of physical commodities, mainly on the energy side,” said Mr Anderson. “We won’t move crude around any more but we will finance oil in tanks for example.”

In the face of rising political and regulatory pressure and listless markets, JPMorgan decided last year to seek a buyer or partner for its physical commodities business, which includes a chain of metals warehouses, oil storage tanks in Canada and a power trading desk. The bank said it would refocus on “traditional” activities in commodities such as financing, hedging, trading warrants on the London Metal Exchange and the vaulting of precious metals.

Some analysts say that JPMorgan and Morgan Stanley, which is planning to sell its oil merchant trading business to Rosneft of Russia, will damage their commodities franchises by reducing their physical presence. They say banks need to be active in the underlying physical commodities markets in order to properly price risk and make prices.

However, Mr Camacho said there were no reasons why paring back its capabilities around operation and logistics would have a negative impact on the bank’s business.

“In large liquid markets such as oil, are we really going to be at a disadvantage because we don’t have a logistics business? Not at all,” said Mr Camacho. “If anything, merchants are more comfortable talking to us than ever before. We are not in the logistics business any more, and we are not competing with them in that respect.”

“We’ve come full circle but with a much bigger client base, and a larger metals and financing franchise,” Mr Camacho says of the reshaped business.

“If we went back and looked at our client revenue stream in 2007, we were not far into the top ten among the big banks,” adds Mr Anderson. “In 2012, we were the number one in revenue and market share. We sustained that in 2013 and 2014.”

Coalition, a London-based consultancy, estimates the revenues of the top 10 banks in commodities in the first half of 2014 were $3.3bn, up from $2.7bn a year earlier, with JPMorgan and Goldman Sachs the biggest earners.

JPMorgan originally valued the Mercuria deal at $3.5bn but that turned out to be much lower at $800m because the two sides could not agree on a price for some parts of the business, such as a contract to supply to provide inventory and working capital to the biggest oil refinery on the US east coast.

This and other deals were sold to other banks earlier this month and JPMorgan was able to achieve the initially targeted price, a statement from the bank said.

During and after the financial crisis JPMorgan built one of the most powerful divisions trading oil and metals on Wall Street, challenging the dominance of Goldman Sachs and Morgan Stanley.

Under the leadership of Blythe Masters, the banker who played a key role in developing credit derivatives, the bank made a string of acquisitions including the global oil, gas, coal, power and metals trading business of RBS Sempra Commodities.

“Just being able to trade financial commodities is a serious limitation because financial commodities represent only a tiny fraction of the reality of the real commodity exposure picture,” Ms Masters said on the day the deal closed in July 2010. “We need to be active in the underlying physical commodity markets in order to understand and make prices.”

The combined businesses brought in billions of dollars of revenue and helped JPMorgan overtake Goldman Sachs and Morgan Stanley as the number one bank in commodities by revenue and market share, according to Coalition.

But the expansion also brought investigations by regulators, including an allegation of market manipulation in the California power market which led to a $410m penalty from the Federal Energy Regulatory Commission.

The sense that regulators were targeting the business and lacklustre markets led JPMorgan to sell a part of its physical commodities business to Mercuria. Rival banks, including Morgan Stanley and Deutsche Bank, have also scaled back their commodity businesses because of tighter regulation and fresh capital constraints.

The US Federal Reserve is weighing new constraints on banks’ ability to handle physical commodities and a powerful US Senate subcommittee has scheduled a hearing on the matter in November.