Analysis: Jefferies poised for promotion into metals' top league

NEW YORK/LONDON (Reuters) - U.S. investment bank Jefferies Group Inc is preparing to make its next big move into the global commodities markets, seeking membership on the London Metals Exchange and snapping up a team of free-agent floor traders from Natixis, according to sources familiar with the moves.

One year after buying veteran commodity futures brokerage Prudential Bache, Jefferies is taking advantage of the retreat by European banks that are reining in exposure to capital-intensive commodities as the euro-zone debt crisis deepens. Just weeks ago it poached a set of metals traders from global broker and LME ring rival Newedge, owned by two of France's top banks.

With an application pending to become one of a dozen top-tier Category I LME members, the last hurdle in Jefferies' ascent will be ensuring that the assembly of three different metals trading teams will be greater than the parts.

The transformation of the U.S. bank into one of the largest players on the LME is another sign of the shifting dynamics in the 135-year old exchange, which last week gained shareholder support for a $2.2 billion takeover by the Hong Kong bourse.

Chief Executive Officer Richard Handler referred to his global ambitions to expand the metals business in an earnings conference call in June, but gave little detail.

"That (metals) is definitely something that we see as an opportunity and we see that as a global opportunity, U.S., Europe and Asia, for expansion," he said.

Jefferies' commodities brokerage arm Jefferies Bache has submitted its application to the LME and it was discussed at the latest LME board meeting earlier this month, according to a source. The timing of the approval is not known.

A source at Natixis Commodity Markets, one of the LME's oldest ring dealers, said Jefferies was in talks to hire most of its remaining floor traders after the French bank's decision to wind down its commodities brokerage business to cut debt and its exposure to dollar financing and boost capital ratios amid concerns about the euro-zone debt crisis.

The traders are effectively free agents and negotiations will not involve NCM, a second NCM source said. NCM ended ring dealing on Monday, downgrading its membership to Category II.

Jefferies declined to comment on the Newedge and planned NCM appointments and the application for ring membership. The LME declined to comment on the application.

THE IN BETWEEN BANK

In some ways, Jefferies has the "just-right" bank.

As a pure-play investment bank without retail operations, it has escaped the regulatory scrutiny that has roiled its larger rivals. And it also has little European exposure to worry investors or creditors.

"Jefferies is one of the investment banks that has used the financial crisis as an opportunity," said Michael Wong, banking equities analyst at Morningstar.

If it has benefited from being less than a Wall Street giant, it has also been helped by being more than a broker.

Pure brokers -- those who act as middlemen on trades rather than risking some of their own capital -- have had to rein in customer credit lines to shore up capital reserves, making it more difficult to do business.

This was one of the reasons for the exodus of brokers from Newedge, which is owned by France's largest banks Credit Agricole CIB and Societe Generale , a source familiar with the matter told Reuters.

Competition among brokers is intense too, with hedgers, such as grain elevators in the Midwest, less active after MF Global's October collapse, pressuring commission and execution fees.

Jefferies' roots go back to equities but it launched its proprietary trading in the late 1990s, building its investment banking up around that.

It is now applying the same strategy to commodities that it used to build up its fixed income, currencies and commodities (FICC) business during the meltdown. For instance, it picked up Bear Stearns equity team and a mortgage desk from First Albany.

FICC is now the biggest revenue generator alongside investment banking, making up 41 percent of revenue, up from just under a third before the purchase of Pru Bache, which broke even and generated revenue of about $200 million last year.

Newedge's former chief executive Patrice Blanc, who joined Jefferies almost two years ago and now heads up Jefferies Bache, has led the metals expansion. He took a look at MF Global days before its collapse, but walked away.

ONE YEAR ON

Some rivals questioned why Jefferies would want to be a ring dealer given the uncertain long-term outlook for one of the world's last open-outcry trading platforms.

The Hong Kong Clearing and Exchange's pledge to keep the LME's floor until at least 2015 may have allayed some of those concerns. It may also want to save on clearing and execution fees and boost revenue from flow, some have said.

Even so, its growth has unnerved more established players.

"Jefferies will be our biggest competition," said a Category I broker, echoing a sentiment among traders that the bank's expansion contrasts starkly with many European metals desks.

"They weren't big ten years ago. If you were big then, you've had to change so many systems that it's not worth it."

The expansion has also raised concerns internally about an overlap of personnel with the combined Newedge and Bache teams.

Barry Gerschon, who made his name as one of the market's best nickel traders, runs the metals desk. Mike Frawley, who was Newedge's global metals head, has joined bringing with him at least six brokers from New York, London and Hong Kong.

(Additional reporting By Eric Onstad in London and Melanie Burton in Singapore; Editing by Andrew Hay)

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