Winter Park, Florida 20/11/2014 - Goldman Sachs along with other banks and metal traders are accused of participating in manipulative "merry-go-round" trades that artificially inflated warehouse queues, leading to a disruption of market fundamentals and higher costs for consumers, according to an explosive new report from the influential US Senate Permanent Subcommittee on Investigations.
Specifically, Goldman's aluminium activities and its ownership of warehousing firm Metro International Services illustrate troubling issues involving conflicts of interest, market distortions, and the potential to gain unfair trading advantages from non-public information.
All of these aspects can arise when a financial holding company owns a commodity-related business at the same time it is actively trades those same commodities, states the report, which was released on Wednesday in advance of a two day hearing to be held in Washington, DC.
“Since being acquired by Goldman, Metro’s practices have likely added billions of dollars in costs to a wide range of aluminium users, from beer makers to car manufacturers to defence companies that make warships for the Navy,” the report said.
“It is past time for the Federal Reserve and other regulators, including the London Metal Exchange, to adopt and enforce needed safeguards on this high risk physical commodity activity,” it added.
IN THE BEGINNING
In February 2010, Goldman acquired Metro for about $450 million. It was the first of a series of warehouse acquisitions by financial firms that were also involved in trading metals.
Under Goldman’s ownership, Metro implemented practices to aggressively attract and retain aluminium in its Detroit warehouses, building a “virtual monopoly” of the US aluminium storage market.
In January 2008, fewer than 400,000 tonnes of aluminium was stored in LME-registered sheds in the entire United States. By February 2012, Metro’s Detroit aluminium stocks swelled to over 1.4 million tonnes.
The investigation charges that Metro entered into “merry-go-round” transactions with existing warehouse clients in which it paid them millions of dollars in incentives to join or stay in the exit line, to load out metal, move the metal from one Metro warehouse into another and then place it back on warrant.
“Those merry-go-round transactions lengthened the metal load out queue to exit the Metro warehouse system, blocked the exits for other metal owners seeking to leave the system, and helped ensure Metro maintained its aluminium stockpiles while earning a steady income,” the Senate report said.
By May 2014, the queue to get aluminium out of Metro’s Detroit warehouses reached 674 days.
And as the Detroit warehouse queue grew, so did the Midwest aluminium premium, which rose to an all-time record of 24 cents just this week from about six cents per pound in 2010.
During this period, the change in queue length at Metro warehouses in Detroit and the changes in the Midwest Premium had a correlation coefficient of approximately 0.89, an exceptionally high correlation, the report noted.
Simultaneously, Goldman was ramping up its own aluminium trading operations. Between 2010 and 2013, Goldman built up its physical aluminium stockpile to more than $3 billion in aluminium in 2012 from less than $100 million in 2009.
“At one point in 2012, Goldman owned about 1.5 million tonnes of aluminium, worth $3.2 billion, more than 25 percent of annual North American aluminium consumption at the time,” the report said.
“Goldman also engaged in massive aluminium transactions, acquiring hundreds of thousands of tonnes of metal in one series of transactions in 2012, and more than 1 million tonnes in another series of transactions later in the year. That same year, Goldman made large cancellations of warrants totalling about 300,000 tonnes of aluminium stored at Metro in Detroit, contributing to the lengthening of the queue.”
“The fact that Goldman engaged in extensive aluminium trading at the same time it was approving practices leading to a long warehouse queue has given rise to serious questions about the integrity of the aluminium market,” it added.
In a statement, Goldman responded that the formation of warehouse queues was "the result of metal owners’ independent, financially motivated decisions to remove metal that had been placed in Metro’s warehouses. Like any other landlord, Metro was merely competing for tenants.”
The Senate Subcommittee initiated this investigation in 2012. It gathered and reviewed over 90,000 pages of documents from Goldman Sachs, JPMorgan, Morgan Stanley, the Federal Reserve, the Office of the Comptroller of the Currency (OCC), Commodity Futures Trading Commission (CFTC), and Federal Energy Regulatory Commission (FERC), as well as from several other financial firms and agencies.