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Why Investment Banks Have Been Leaving Commodities

04/14/2014 @ 10:16am

Higher regulatory pressure and diminishing profit potential? 

Are these just excuses, or are they the real reasons we've seen a major shift by the investment banks out of commodities and physical trading? 

Over the past two years, if we look at two headliners for commodities and metals - gold and corn- we can see why.

Not pretty. Actually, ugly. So as you can see, probably more of a problem with diminishing profitability rather than regulatory oversight. 

Thirty years ago, you could have been a corn specialist or bean specialist. And, for that matter, there are still a few around today. But with ever-building pressure to produce results for customers, the money flows begin to be an issue and need to be tracked. It's almost as though you sometimes are not trading your own commodity anymore, just something on a screen with no real discernable characteristics common to what you used to trade. 

When interests rates are low and the stock market is either flat or too volatile, we see a lot of new money come into the commodity sector. And, predictably so, when we see the fixed income market (interest rate products) start to heat up on Quantitative Easing, we hear a big sucking sound as the money flees the commodity sector in search of better returns in bonds and Eurodollars. 

While corn, wheat, and beans were big beneficiaries when nothing was going on in stocks and bonds, as those two products begin to heat up, I sometimes think that it is just that simple. We haven't had money of this magnitude in our markets ever before. When the money decides to leave, it usually leaves a mark. The same can be said when it arrives. 

Stocks have had one heck of a run as of late. 

Interest rates are being debated daily on the financial news shows. 

Are the commodity markets unprofitable or overregulated like the exiting firms would like to tell you? Or, are there better, more productive strategies in other products to put your clients' money into? I know which one I bet it is. Just looking at the above chart, we can see the money flow into the market driving gold toward $1,900 and corn toward $7. But as the economy began to improve and the stocks started taking off, you almost visually can see the money liquidate and run. 

At the far right of the chart, you can see the money come back as both the gold and corn market were driven to oversold areas and they became attractive to big money again. 

Sometimes our own imaginations can be our own worst enemies.

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