Federal Reserve

Fed asks US Congress to limit Wall Street merchant banking

Fed says financial system at risk from Wall Street owning physical commodities

PUBLISHED : Friday, 09 September, 2016, 4:44am
UPDATED : Friday, 09 September, 2016, 4:44am

The Federal Reserve Board recommended that Congress pare back Wall Street’s ability to own physical commodities and engage in other aspects of merchant banking because of possible risks to the financial system, according to a report issued on Thursday.

US lawmakers should repeal grandfather status granted in 1999 for Goldman Sachs and Morgan Stanley to conduct activities like storing and transporting physical commodities that other banks cannot do, the Fed said jointly with two other regulators.

Fed Governor Daniel Tarullo had already expressed misgivings about the commodities exemption and so the Fed’s position was somewhat expected. Something of a surprise was the Fed opposition to merchant banking: Wall Street taking a direct ownership in non-financial businesses.

The report was required under part of Dodd Frank, the Wall Street reform law, which required the Fed, the Federal Deposit Insurance Corp and the Office of the Comptroller of the Currency to report to Congress the types of banking activities that might pose risks to the financial system.

Existing rules allowing commodity investments raise “safety and soundness concerns as well as competitive issues,” the Fed said.

Wall Street firms have been scaling back riskier parts of their commodities businesses in recent years due to public and political scrutiny over the role of banks in raw materials markets.

Morgan Stanley last November completed the sale of its physical oil business to commodity trading firm Castleton Commodities. In 2014, the bank sold its controlling stake in oil storage business TransMontaigne to NGL Energy Partners LP.

Goldman in December 2014 sold its controversial Metro metals warehousing unit to Swiss private equity group Reuben Brothers.

The Fed recommended that Congress repeal the ability for banks to make investments in non-financial companies, known as merchant banking. This would prevent banks from being exposed to legal liability for operations of a portfolio company, the report said.

Spokesman for Goldman and Morgan Stanley declined to comment on the report.

Wells Fargo & Co, which makes merchant bank investments through its Norwest Equity Partners and Norwest Venture Partners units, said in a 2014 letter to the Fed that its “diverse portfolio of merchant banking investments has increased the safety and soundness of our institution by producing attractive risk-adjusted returns and enabling us to expand customer and client relationships in a range of industries, resulting in new financial opportunities.”