By Barani Krishnan
NEW YORK, Dec 5 (Reuters) - Deutsche Bank, which is quitting trading in most raw materials markets, will retain its near $9 billion commodities index fund business, a strategy industry experts said helps the German bank profit from fees and maintain ties with some of the largest investors.
It also shows that the world's biggest banks were not giving up yet on passive commodity investment tools such as indexes, despite research pointing to substantial outflows of money from such products this year.
A top-five financial player in commodities, Deutsche Bank said on Thursday it will cease trading energy, agriculture, base metals, coal and iron ore, while retaining precious metals and a limited number of financial derivatives traders. It cited mounting regulatory pressure.
But the bank will continue to deal in commodity indexes, said spokeswoman Renee Calabro in New York.
Industry experts said commodity indexes were shielded from the lower profit margins, higher capital requirements and growing political and regulatory scrutiny that were forcing banks out of proprietary and physical trading of commodities.
"What we need to distinguish here is that commodity indexes are fee-generating services where banks make profit for investments done on behalf of clients, without having any risk on their books," said Adam Sarhan, president at New York financial advisory firm Sarhan Capital.
"It's the turnpike where they collect a toll each time a commodity client passes by."
Data from Lipper, a Thomson Reuters company, showed that Deutsche Bank had at least seven actively traded index products in commodities, including exchange-traded funds and mutual funds, with total assets of about $8.8 billion as of end-October. Of these, the largest was the Power Shares DB Commodity Trading Index, which alone had about $6 billion tracking it.
Fees, aside, index clients were often the biggest pensions, endowments and family offices, target investors that banks wanted to nurture.
"These are institutional investors who are likely clients to a bank in many other aspects," said Eliot Geller, managing director at Core Commodity Management in Stamford, Connecticut.
"If you're an investment bank that is exiting certain areas of commodities, it makes sense to continue with your indexes as you'll continue working with extremely large, prominent and significant investors. It's probably a net benefit to overall business and the reason I think investment banks in general want to stay in that area."
But commodity index strategies have also not fared too well with investors lately.
Citigroup estimates that an all-time high of $36 billion has left passive commodities strategies to date this year, compared with net inflows of $27.5 billion in 2012.
Some think the outflows have been overplayed and that commodity indexes are far from their sunset days.
"What we have now is a very tough regulatory environment in commodities. That can change, and when it does, you want to be somewhere in the commodities business to get back in," Sarhan said.