U.K. Regulator Warns on Commodities Houses

LONDON--Commodities-trading houses are posing a challenge to market oversight, the U.K.'s Financial Conduct Authority warned Thursday.

As tighter regulatory requirements have reduced banks' activities in the sector, their places have been taken by specialist companies, many of which are closely held and have substantial operations outside direct oversight of market regulators.

The best known, like Cargill, Vitol Group SA and Trafigura Beheer B.V., churn through hundreds of billions of dollars of sales every year through global operations that span from London to Singapore and control the movement of huge volumes of essential goods--ranging from grains, cocoa and coffee beans to industrial metals and oil.

In the first comprehensive update on commodity market regulation in the U.K. since 2007, the FCA said "the rise in proportion of activity on London markets by unregulated, overseas entities poses a challenge to our market supervision, alongside risks to market standards and integrity."

The FCA didn't name any companies.

The update by the U.K.'s financial regulator comes as new regulations, devised to increase scrutiny of the commodities markets, are about to be implemented.

Just last month, the European Union agreed to a basic text for its Markets in Financial Instruments Directive, or MiFiD. The wide-ranging law, which was 3 1/2 years in the making, will impose trading limits on a number of energy and agricultural commodity derivatives and bring more companies under the FCA's regulatory scope. The EU has also agreed on regulations to increase transparency and scrutiny of market abuse, while the Dodd-Frank act in the U.S. has also increased regulatory scrutiny of the commodities markets.

The trading companies' own expansion is already making them more accessible. Razor-thin profit margins and fierce competition in the physical markets where they operate have encouraged many of the larger companies to invest in fixed assets like mines, oil fields and pipelines to secure market share and lock in value. The big acquisitions are pushing the companies to tap the public markets for cash. Glencore PLC went public in 2011, while competitors like Trafigura and Gunvor now publish annual accounts after they issued bonds on the Singapore Stock Exchange last year.

Commodities traders say the impact of regulatory changes brought into effect over the last few years are already being felt.

"There is already a much stricter regulatory regime for all of us in Europe and in the States," said one senior executive at a large commodity trading house during a conference in London last week. "I don't think that's going to change. I think it's going to get stricter and stricter," the executive said.

-Write to Sarah Kent at [e-mail]

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