BofA gets second chance at commodities with Merrill

SINGAPORE (Reuters) - Bank of America's deal to buy Merrill Lynch & Co Inc will give it a second chance to make a name for itself in global commodity markets, just as many prices tumble by a third from their peaks.

Bank of America Corp, the biggest retail bank in the United States but a bit player on commodities markets, will pay $44 billion for Wall Street's third-largest bank, whose well-regarded energy trading franchise has thrived even as the bank itself reels from the impact of the U.S. credit crisis.

The commodities desk is only a small part of the hastily arranged deal, which could help restore a bit of calm to financial markets after months of turmoil among investment banks.

But Merrill's well-established U.S. and European gas and power trading operations and real assets, plus its global oil business, would give BofA the chance to mend its spotty record in resource markets, where it has focused mainly on paper trading.

"I would think they will have a look at it and see how to profit from it, I don't think they would sell it," said a manager at a different investment bank, who declined to be named.

"Merrill's is really a physical, asset-based business, while BofA's business before was a purely derivatives business."

The Merrill deal appeared likely to result in a bigger shake-up in the commodities and energy world than the troubles facing Lehman Brothers', which struggled to gain critical mass in commodities after rushing into the market two years ago.

TROUBLED HISTORY

Although Merrill Lynch doesn't figure highly in league tables for hedging over-the-counter commodities derivatives on behalf of corporate customers, that may belie the fact that it runs a sizeable book trading physical gas and power on its own, the result of its 2004 deal to buy trading venture Entergy-Koch.

In a global survey that ranked decades-long leaders Goldman Sachs and Morgan Stanley at the top, with Barclays Capital and up-and-comer JP Morgan vying for third, Merrill Lynch failed to make the top 8 for global OTC hedging, according to consultancy Greenwich Associates.

Bank of America rated seventh for U.S. OTC derivatives, with market penetration of 17 percent, the survey showed, but it has struggled to establish a strong overseas operation.

In 2003, before the commodities price boom really gained momentum, BofA shut its Singapore oil trading desk after losing $89 million when the SARS crisis wrecked its position in jet fuel markets, which slumped sharply as air travel collapsed.

This January, after only a year of operation, it shut down its London commodities and energy trading desk to consolidate trading in the United States, where it had a modest presence.

The move was part of a broader cut to corporate and investment banking jobs, although BofA seems to have weathered the credit crisis in better condition than many other banks.

The bank is also embroiled in the dramatic collapse this summer of U.S. energy trader SemGroup LP after $3.2 billion in wrong-way trades. Bank of America was its main lender and is now scuffling over who has first claim on SemGroup's assets.

For traders, the possible overlap in U.S. operations contrasts with Asia and Europe, where Bank of America is absent.

"It seems (the deal) will not affect this side of the world as much as the U.S.," said Tim Spragg, a director at recruitment agency Commodity Appointments Ltd in Singapore.

In Asia, Merrill Lynch has a small oil trading desk, and has been among the first of the second-tier Wall Street banks to dabble in physical markets, including crude oil, a trend among its rivals as competition for customer hedging intensifies.

RISKY VALUE

The banks' varied tolerance for risk is evident in quarterly reports detailing their value at risk (VaR), the estimated amount of money a company could lose in a single day.

Bank of America carried an average commodities VaR of $7.2 million in 2007, and $11.1 million in the quarter ended June 30. Merrill Lynch's second-quarter VaR was $21 million, still far shy of Goldman Sachs' $48 million or Morgan's $39 million.

Lehman's VaR averaged $15 million in the last quarter.

And Merrill appears to have thrived as commodities staged their biggest quarterly gain in 35 years, even as top rivals like Morgan Stanley reported downturns in their commodities and energy trading revenues.

The company said commodities were one of the bright spots in an otherwise "difficult and disappointing" second quarter, with year-on-year revenues up nearly 60 percent, led by profits in trading coal, gas and electricity.

That was before prices plunged by as much as a third from record or near-record highs in early July, the biggest correction since the current bull cycle began five years ago.

Although the shine may be off commodities for now, analysts said that should not deter real traders from making a go of it.

"In theory, as long as traders are doing what they should do...and as long as markets continue to be volatile, it should be a promising market to be in," said Jeff Brown, chief economist at consultants FACTS Global Energy in Singapore.

"Big swings should be big opportunities to make money."

(Reporting by Jonathan Leff; Editing by )