By Jonathan Leff and Dmitry Zhdannikov
NEW YORK/LONDON Dec 6 Just over three decades
ago, Goldman Sachs bought a niche coffee-and-gold trading
firm called J. Aron & Company, becoming one of the first banks
to enter the commodity markets.
A year from now, the Wall Street giant may be one of the
last ones standing as the former J. Aron traders who now run
Goldman mount a lonely defence of their right - and customers'
need - to buy and sell copper, crude or corn. Few others are
sticking around as a rocky, on-and-off romance between financial
firms and raw material markets turns sour again.
Rising regulations, political pressure, falling profit
margins and fierce competition from newcomers - including
overseas banks - is forcing Goldman's rivals to retreat, or
scale back, particularly in the costlier trade of physical
commodities, a critical core for many banks.
On Thursday, Deutsche Bank, one of the five biggest players
of the past decade, said it would quit commodities trading under
regulatory pressure, cutting 200 jobs. That follows similar
moves by smaller players like UBS and Credit Agricole in recent
Top rivals JP Morgan and Morgan Stanley are
in the process of selling out from commodities trading while
Barclays has cut its division by a fifth.
Several other big banks that have yet to signal their
longer-term plans have generally remained silent on the matter
of commodities - except Goldman, whose top executives have given
unequivocal support to the roughly 250 J. Aron traders who
helped deliver a blockbuster $5 billion in revenues in 2009. By
last year that had dropped to less than $1 billion.
Chief Executive Lloyd Blankfein, who started his carrier at
J. Aron in precious metal sales in the early 1980s, said in
September it was a "core, strategic business".
Gary Cohn, who ran J. Aron in the late 1990s, said the
bank's clients "really need us to be in that business". A
spokesman said on Thursday those statements still stand.
The difference in tone has been apparent.
"Morgan Stanley and JP Morgan have put their businesses up
for sale. Goldman Sachs is not doing anything (like this)," Alex
Beard, the head of oil division at trading giant Glencore
, told a conference earlier this year.
TOO MUCH DOWNSIDE
Banks have come under unprecedented pressure this year,
including debate in the U.S. Congress over accusations their
physical commodity desks have contributed to market froth.
"For many banks there is too much downside to be in
commodities," chief executive of trading giant Gunvor, Torbjorn
Tonrqvist, said earlier this year.
The shrinking ranks of top five players is opening
opportunities for the likes of Glencore and Gunvor, as well as
for more lightly regulated banks like South African Standard
Bank, emerging market-focused Standard Chartered,
Australia's Macquarie Group or Brazil's Grupo BTG
To be sure, Goldman still faces some competition at home.
Bank of America's Merrill Lynch and Citigroup have
in the past two years unexpectedly beefed up their desks and
employ around 200-250 people each. For both it is their second
or even third attempt to build a top tier desk.
"It all comes down to what regulations will allow big U.S.
banks to do... U.S. banks will diminish activity," Ian Taylor,
the head of top global oil trader Vitol, said earlier this year,
predicting that new entrants would include Asian institutions.
It is not certain that Goldman will be able to successfully
defend the franchise once the Federal Reserve completes a
wide-ranging review of banks' commodity trading activities.
Alongside Morgan Stanley, Goldman has argued that a clause in a
1999 banking law should allow it to keep the business.
But it has recently signalled plans to sell its metal
warehousing unit at the heart of a controversy over aluminium
prices, and has put its uranium trading desk on the block. It
has tried, in vain, to get permission to trade iron ore.
Most banks have almost fully closed proprietary trading
desks, as the so-called Volcker rule prohibits banks from
trading with their own money. They now focus mainly on financing
commodities trading for clients as well as hedging.
A further retreat threatens to diminish liquidity in key
markets, reduce choice for corporate hedgers and drive more
trading toward less-regulated players, some analysts say.
"For those refineries that need to hedge their specific
types of oil, there may be no financial services firms to do it
with. For airlines that needs to hedge Jet-A1 at their hubs,
Atlanta or Chicago or Denver, who's going to do that for them?"
says Brad Hintz, a Wall Street analyst at Sanford Bernstein & Co
and a former treasurer of Morgan Stanley.
"The only the one that may be left is Goldman."
IN THE VEINS
Goldman bought J. Aron, then a small trading house focused
on coffee and gold, in 1981, the same year that commodity
merchant Philipp Brothers (Phibro) bought Salomon Brothers
banks. Morgan Stanley jumped into the market shortly thereafter,
building up the business internally.
It marked the beginning of a three-decade affair between
financial institutions and raw material markets, one that waxed
and waned once in the 1990s and again in recent years.
"The revenue opportunity for banks has both shrunk and
morphed over the past couple of years, so any remaining player
of scale will need to be nimble in adapting to changing market
opportunities and regulations," said Seb Walker, a partner at
industry consultant Tricumen.
Although JP Morgan is selling its large physical commodity
trading franchise, the remaining derivatives business will still
benefit from its massive lending franchise, trade finance
operations and principal investing activity.
Citi, too, is "something of a wild card", said Walker.
"Although currently a smaller player, the bank is notable for
investing in the area while others have been pulling out."
A source familiar with Citi operations said the bank was
committed to continue narrowing the gap with top players in
commodities trading with focus on serving clients.
Goldman has suffered alongside some of its peers as some of
its most senior executives have departed in recent months.
But none of them have commodities in the veins in the same
way that Goldman does. Many of the banks' partners grew up in
the J. Aron business, and remain fiercely loyal to it, giving
them a strong voice among shareholders, says Hintz.
"The management grew up in commodities, they're looking
through the cycle," he said. "In the meantime this isn't going
to be profitable, but (they know) this is cyclical."