US gives commodity definancialisation a big shove

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The commodity super cycle is going bust for three interlocking reasons:

  1. China is in structural transition away from fixed asset investment as its growth driver and as the dominant buyer of commodities is hitting demand hard.
  2. The US recovery has restored its currency as the cleanest of the dirty shirts and the US dollar is in a bull market meaning dollar-priced commodities all suffer a monetary deflation.
  3. The move by post-modern markets into commodity trading is reversing spectacularly. The fad of seeing commodities as an asset class is passing and this definanicalisation process means hoarding is coming to an end.

Basically, the three secular drivers of the commodity “super cycle” are now in full reverse. Today we have more evidence for this in item number three. From the US via the FT:

The findings of the two-year probe by the Senate permanent subcommittee on investigations said the banks’ involvement in physical commodities put them in the same vulnerable position as BP, which has been hit with multiple lawsuits and billions in fines as a result of the 2010 Gulf of Mexico oil spill.

…A 2012 Federal Reserve of New York commodities team review found that the three banks and a fourth unnamed financial group had shortfalls of up to $15bn to cover “extreme loss scenarios”, the report said. The Fed is considering restricting banks’ physical commodity activities.

In addition to potential environmental disasters, the subcommittee said the banks’ ownership or investments in physical commodity businesses gave them inside knowledge that allowed them to benefit financially through market manipulation or unfair trading advantages.

…The subcommittee’s review of Goldman Sachs focused on its Nufcor unit that trades non-enriched uranium, Metro International Trade Services, a network of metals warehouses in Detroit, and its coal operations. The bank is in the process of winding down Nufcor and is selling Metro.

Metro was involved in moving aluminium from one warehouse to another in what are known by critics as “merry-go-round” deals, which caused long queues to take delivery of aluminium and raised prices for consumers and companies, the report said. The bank also benefited from rental revenue.

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Good old fashioned hoarding, in other words. No longer, from Bloomie:

Congressional scrutiny of Goldman Sachs Group Inc. (GS) and Morgan Stanley (MS)’s commodities businesses is another strain for units that already saw revenue tumble by two-thirds from peak years.

Goldman Sachs produced $1 billion of revenue from its commodities unit and investments in commodity businesses in 2012, down from $3.4 billion in 2009, according to a Senate Permanent Subcommittee on Investigations report released yesterday on banks’ involvement in those markets. Morgan Stanley’s commodity revenue fell for four straight years, from $3 billion in 2008 to $912 million in 2012, according to the report.

The jig is up, time to move on. Another prop to the commodity super cycle falls.

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About the author
David Llewellyn-Smith is Chief Strategist at the MB Fund and MB Super. David is the founding publisher and editor of MacroBusiness and was the founding publisher and global economy editor of The Diplomat, the Asia Pacific’s leading geo-politics and economics portal. He is also a former gold trader and economic commentator at The Sydney Morning Herald, The Age, the ABC and Business Spectator. He is the co-author of The Great Crash of 2008 with Ross Garnaut and was the editor of the second Garnaut Climate Change Review.