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The Usual Suspects After All

By: Tom Szabo

-- Posted 28 August, 2008 | | Discuss This Article - Comments:

I said before that the 2 or 3 “U.S. Banks” that have reported, per the Bank Participation report published by the CFTC, a huge short position in COMEX silver and gold were not “money center banks” or “dealers”. Well, after an exhaustive review of the bank quarterly Call Reports filed by each U.S. commercial bank with the Federal Financial Institutions Examination Council (FFIEC), it seems that I’ve established that in fact the primary U.S. banks involved in the futures market are the usual suspects after all. The specific banking entities reported by the CFTC are not “dealers” per se in the sense of being futures brokers but they most definitely have “swap desks” and they are “money center banks”.

Before getting to my findings, I will discuss the process I used so you can try to recreate, if you wish, what I did. First, I took the Quarterly Banking Profile as of 6/30/08 issued by the FDIC and noted the total “Commodity & Other” derivatives were $1.137 trillion in notional value across all FDIC insured commercial banks and state-chartered savings banks. See Table VI-A on page 11 of the report. Also, I noted that “Futures & Forwards” were $23.6 trillion. In addition, I noted that more than 99.9% of derivatives were held by banks with assets greater than $10 billion. Then I ran an “FDIC - Statistics on Depository Institutions” report that matched and reconciled the derivatives totals to the Quarterly Banking Profile. This statistical report indicated that the top 84 commercial banks over $10 billion in assets held the vast majority of commodity derivatives and all futures and forward contracts, while the top 48 savings institutions held almost none. Note that savings institutions file quarterly Thrift Financial Reports, not Call Reports, and the TFR does not provide notional amount information on derivative positions (only market value or credit risk equivalents are reported). Still, we can safely assume that savings and loans are not involved in commodities or futures and forward contracts to any large extent on a notional basis (this is probably why they don’t report the notional amount of derivative positions in the TFR).

Next, I ran the Call Report for each of the 84 commercial banks with assets over $10 billion as of June 30, 2008 and came up with the following (Schedule RC-L, Page 29).

Total Commodity and Equity Futures & Forwards Notional Amount: $308.1 billion (from FDIC Statistics report — this is the closest breakdown for commodities)

COMMODITIES (including off-exchange forward contracts):
(1) JP Morgan Chase Bank, National Association: $126.3 billion (futures only: $74.5 billion)
(2) HSBC Bank USA, National Association: $36.2 billion (futures only: $4.5 billion)
(3) Citibank, N.A.: $16.8 billion (futures only: $15.1 billion)
(4) Bank of America, National Association: $12.6 billion (futures only: $12.2 billion)
(5) Wachovia Bank, National Association: $12.2 billion (futures only: $12.2 billion)
(6) Bank of Oklahoma, National Association: $0.3 billion (futures only: $0.3 billion)
(7) Other: $0.1 billion
TOTAL COMMODITIES: $204.5 billion (futures only: $118.8 billion)

EQUITIES ((including off-exchange forward contracts):
(1) JP Morgan Chase Bank, National Association: $82.3 billion
(2) Citibank, N.A.: $15.0 billion
(3) Bank of America, National Association: $4.0 billion
(4) Wachovia Bank, National Association: $1.1 billion
(5) Suntrust Bank: $0.3 billion
(6) Other: $0.9 billion
TOTAL EQUITIES: $103.6 billion

Not a lot to be surprised about except I didn’t think Wachovia would have that much in commodity futures ($12.2 billion). What does come as a bit of a surprise is that more than 99% of commodity (and equity) futures and forward contracts held by U.S. banks are concentrated in just 5 institutions. Yet if we look back at the Bank Participation report for July 1, 2008 (which corresponds very closely timewise with the 6/30/08 Call Reports), we indeed can see that no commodity futures were held by more than 5 U.S. banks. And now we know the names of those 5 banks: JPMorgan, BofA, Citibank, HSBC and Wachovia.

Let me note at this point that even though the Bank Participation report showing the huge increase in COMEX gold and silver short is dated August 5 (more than a month after the June 30 Call Reports), there is little reason to believe that the top 5 banks have changed. Indeed, I’ve looked at a selection of historical Call Reports and did not see a lot of change in the composition of the top futures-holding (or should we say wielding) banks.

So, which of the 5 are the actual 2 big shorts in COMEX silver and 3 big shorts in COMEX gold? Well, the Call Reports seem to reveal that as well (Schedule RC-R, Page 40):

Gold Contracts: $85.2 billion
Other PM Contracts: $10.9 billion

Gold Contracts: $27.5 billion
Other PM Contracts: $6.9 billion

Gold Contracts: $0.5 billion
Other PM Contracts: $3.0 billion

Bank of America
Gold Contracts: $0.4 billion
Other PM Contracts: $0.2 billion

Gold Contracts: $0.0 billion
Other PM Contracts: $0.0 billion

Bank of Oklahoma
Gold Contracts: $0.0 billion
Other PM Contracts: $0.0 billion

Note that it makes sense that 2 of the 3 are JPMorgan and HSBC simply because these two have the largest commodities forward contract books of business ($83 billion out of $85 billion or so). The third (in COMEX gold) is likely to be Citibank, which has a $1.7 billion commodities forward book of business, although it could very well be Bank of America. We should know when the 3rd quarter Call Reports come out later this year assuming one or more of these banks made a killing shorting gold and silver (gains and losses on derivatives are reported in the Call Reports, although without breaking out commodities separately).

You can draw your own conclusions at this point but I would like to make a couple of observations before I’m done. First, the very large commodities forward contract book of business run by JPMorgan and HSBC could very well mean that the huge COMEX short futures positions that showed up in the August Bank Participation report are hedges or offsets against the forward contracts. The 33,805 COMEX silver contracts have a notional value around $2.5 billion, and the 90,568 (I’m counting both long and short) COMEX gold contracts have a notional value around $7.7 billion. JPMorgan and HSBC’s commodities forward contract books of business are almost an order of magnitude larger than this.

Second, based on some of the incongruities between the Bank Participation and COT reports that I’ve already pointed out, I believe it is somewhat likely that the huge COMEX silver and gold short positions of the 2 or 3 U.S. banks (I am no longer placing “U.S. banks” in quotes because I have now determined they are in fact just plain old U.S. banks in the generic sense of the word) represent an intercompany transfer between the futures dealer subsidiaries and the banking subsidiaries of JPMorgan and HSBC. Such a transfer could be accomplished by having the banking entity enter into a swap with the dealer entity. What would remain on the dealer’s book is just the forward contract.

Now, I understand if you are scratching your head in bewilderment as to why the dealer and bank subsidiaries of a bank holding company would bother to do such a swap. Well, I have an answer for that as well. Take a look at the CFTC Financial Data for Futures Commission Merchants reports. Do you notice anything interesting? Hint: HSBC Securities and JP Morgan Futures (I’m talking about the futures dealer subsidiaries otherwise known as Futures Commission Merchants) have relatively little “Adjusted Net Capital” compared to a number of other futures dealers. In fact, their reported capital (HSBC Securities: $829 million; JPMorgan Futures: $1.7 billion) does not come anywhere near to being able to support the total notional amount of commodities futures contracts (HSBC Bank USA commodities: $36.2 billion; JPMorgan Chase Bank: $126.3 billion) and futures contracts in other markets (for example, JPMorgan Chase Bank has $1.2 trillion–trillion with a “T”–in interest rate futures contracts alone) held at the bank level, as reported in the respective Call Reports.

Thus, it appears that the swap of forward contracts for futures contracts is being driven by the need of the JPMorgan and HSBC banking subsidiaries to hold most of the consolidated capital reserves. And that, in turn, could be the result of the massive loan write-offs on subprime mortgages and collateralized securities, which apparently have required JPMorgan and HSBC to boost banking reserves at the expense of the reserves held at the futures dealer subsidiaries. You can see what I’m talking about by reviewing some of the historical Futures Commission Merchant reports, noting that most other large futures dealers have increased their reserves by a multiple in the past couple of years whereas JPMorgan and HSBC have remained near historic levels despite a large increase in their futures trading activities.

One final note. JPMorgan and HSBC are obviously huge individual players in the gold and silver markets and that includes the COMEX. The Call Reports prove, I believe, without a shadow of a doubt that these two U.S. banks constitute a significant portion, and probably the outright majority, of commercial short positions (both gross and net) in COMEX gold and silver futures. That might get the conspiracy-minded among us to start hootin’ and hollerin’, but I do want to point out that JPMorgan and HSBC have a much larger book of forward gold and silver contracts than they do COMEX gold and silver contracts. As a result, it is impossible to conclude with any degree of certainty that the COMEX gold and silver short positions are not in fact hedges of forward gold and silver long positions. Unless, of course, we have an agenda and a propensity to jump to conclusions.

-- Posted 28 August, 2008 | | Discuss This Article - Comments:

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