* Banks retreat from commodities operations
* Gold and forex similarities aid consolidation
* Automation set to displace traditional bullion traders
By Clara Denina and Jan Harvey
LONDON, April 23 The increasing use of technology on financial trading floors is driving a trend for banks to roll precious metals operations into their forex businesses as a separate unit from other commodities activities.
Barclays on Tuesday followed similar moves by rivals Deutsche Bank, UBS, JPMorgan Chase & Co and Morgan Stanley by announcing that it would keep its gold trading business while hiving off most of its global commodities operations.
The consolidation of interbank gold dealing and foreign exchange trading on electronic platforms is making it increasingly easy for forex traders to execute precious metals deals, allowing banks to ease cost pressures by moving the asset classes into a single business unit.
"If you were to look at the size of the banks' trading teams in foreign exchange (compared with) ten years ago, they are a shadow of their former selves," one former banker said.
"The machines have taken over ... If you have gold, there is no reason at all why you wouldn't include that as another currency pair."
The uptake in electronic trading in the past few years has been a key tool in banks' efforts to reduce costs and increase efficiency.
Barclays added part of its precious metals trading to the BARX FX platform in late 2012, citing the cost-effectiveness of electronic trading.
With regulatory scrutiny showing no signs of abating and cost pressures on banks still elevated, industry sources said that more institutions may drop out of commodities and stream gold alongside forex platforms.
"We have to face (the fact that) the market has changed and we have to make lower the cost of trading gold," Societe Generale analyst Robin Bhar said. "(Banks) can do that by cutting headcount and transferring trade to electronic platforms."
As global regulators press for greater market transparency, banks have been required to move some of their over-the-counter derivatives trading to electronic platforms where possible.
"There is a sea change going on because of regulation, squeeze on capital, reputational risks. Banks don't want to do certain things anymore, while what's left tends to be more computerised," said Niki Beattie, CEO of consultancy Market Structure Partners.
"Where you saw banks paying a huge amount of trading and sales staff, (those) salaries could ultimately be going into technical support roles. That's what happened in equities a couple of years ago."
Trading gold alongside foreign exchange operations makes a lot of sense. The metal is often regarded as a dual asset, both a commodity and a store of value. Prices tend to be more sensitive to factors such as U.S. interest rate policy, inflation expectations and forex rates than the supply and demand flows that exert a heavy influence on commodities such as oil or industrial metals.
Gold is a highly liquid asset class, with daily trading volumes comparable to some currency pairs, while its volatility is more in line with foreign currencies, analysts said.
The client base is also different to that for other commodities. For instance, banks that serve central banking customers with large bullion reserves to manage will have a greater need to offer gold trading and storage services.
"Banks still want to have a complete institutional product offering, so as a result they need to retain precious metals as part of their product family," said George Kuznetsov, of analytics firm Coalition.
"Banks have been struggling with capital, so they've been much more selective in terms of the products they're betting on for the future," he said. "Commodities come with a big question mark."
Coalition estimates that total commodity trading revenue at the top 10 investment banks fell to $4.5 billion last year, less than a third of the $14.1 billion they racked up in 2008 at the height of the commodities boom.
Back then, a full-service bank would have been expected to offer a full commodities service. That is no longer the case, bankers say.
"After Deutsche pulled out, it's easier for Barclays to pull out, and it'll be easier for whoever else wants to pull out next," one commodities market source said.
"It seems the floodgates are open now. Once people were piling into the market because they felt they had to be in commodities. Now they're piling out of it again." (Editing by Veronica Brown and David Goodman)