Commodities Investing "Back to Normal" as Another Bank Quits

Barclays exits commodities, clients face rising costs, just as investing returns "diversify portfolio risk" again...

 

COMMODITIES INVESTING is "returning to normal" according to a new report, losing the strong correlation with world stockmarkets seen during and after the global financial crisis just as major banks pull out of the natural resources market.

 

Barclays this week became the fourth global bank to announce it's closing its commodities division, following J.P.Morgan, Morgan Stanley and Deutsche Bank in refocusing activity away from natural resources.

 

Yet for investors, "Commodities are [now] generating stable returns amidst turbulent global capital markets with lower volatility compared to equities and bonds," says a new report from Citigroup Research, a division of the global bank.

 

"This appears to represent a return to normal," Citi's report concludes, with commodities and stockmarket investments moving in different directions, rather than being strongly tied to one another as became the case "especially in the lead up to the financial crisis in 2007-09 and even more so in the immediate aftermath."

 

The exit of major banks from commodities investing was last week cited as a key reason for that falling correlation with stock markets by United Nations' analysts.

 

"The influence of banks and hedge funds on commodities is at its lowest since 2008," said an update from the the UN Conference on Trade and Development (UNCTAD), quoted by Reuters.

 

"As financial investors including banks and hedge funds have reduced their activity in commodities markets in the last two years," it explained, "we've seen a marked drop in the correlation between the returns on the equity markets and the returns on oil and other commodities futures markets."

 

Currently the second-biggest retail bank in the UK, Barclays will retain its precious metals activities, moving its market-making bullion team to its foreign exchange division. But other commodities will go "electronic", with clients offered derivatives and exchange-traded index products.

 

Fellow London bullion market makers Deutsche Bank and J.P.Morgan have also retained their gold and silver trading businesses, although Deutsche – which took 200-tonnes of gold vaulting space in Singapore's Freeport facilities last June – is looking to sell its membership of the London Gold Fixing Limited.

 

Barclays currently chairs the twice-daily London Gold Fix. It opened a dedicated London gold and silver vault in 2012, becoming only the third of London's 11 market-making bullion banks to operate its own facilities. The bank's 2013 annual report shows that, amongst £588.7 billion of assets held at fair value ($957bn), it ended the year holding assets of £10.2bn ($16.8bn) in commodities derivatives and £4.2bn ($6.8bn) in physical commodities.

 

"The retrenchment [by major banks] may leave rich opportunities for commodity merchants," says the New York Times, citing Switzerland's Mercuria – now buying J.P.Morgan's commodities investing business for $3.5bn – and Glencore Xstrata, neither of whom "face the same stringent regulations and capital requirements as banks."

 

"The more banks that exit commodities trading," Bloomberg quotes analyst Jeffery Harte at Sandler O’Neill & Partners, "the less competitive it becomes for the banks which stick with it." With Barclays, Deutsche, J.P.Morgan and Morgan Stanley quitting or reducing their commodities business, US investment bank Goldman Sachs "now has a much bigger piece of a much smaller pie," he says.

 

Notes to Barclays' 2013 accounts point out that the European Commission's proposed Liikanen directive would, amongst other things, ban globally significant banks from trading financial instruments and commodities for their own profit/loss account (known as proprietary or "prop" trading).

 

The United States' Dodd-Frank Act meantime seeks to impose position limits on banks and other entities trading derivatives on physical commodities, Barclays' annual report also adds.

 

"These rules could restrict trading activity, reducing trading opportunities and market liquidity and potentially increasing the cost of hedging transactions and the volatility of the relevant markets," it says.