After two months bankers would like to forget, Wall Street may need a September to remember to avoid closing the books on the worst quarter for investment banking and trading revenue since the peak of the financial crisis.
For the number of shares traded on U.S. exchanges to match last year’s third quarter, average daily volume for the rest of the month would have to top that of any trading day in the last three years. Debt trading also needs to pick up, as corporate bond trading in July and August was down 8 percent from the same period in 2009, according to Trace, the bond-price reporting system of the Financial Industry Regulatory Authority.
Troubling economic data and uncertainty over European sovereign debt and the global recovery led investors to step back from the markets, analysts said. The result may be the lowest revenue from investment banking and trading for the five largest Wall Street banks since the fourth quarter of 2008, when they had combined negative revenue of $3.35 billion.
“Activity levels in the last three weeks of September should be a lot better than July and August, but it would have to almost be off-the-charts good to save the third quarter,” said Jeff Harte, a Chicago-based analyst at Sandler O’Neill & Partners LP. “I don’t think there’s going to be a lot more clarity about the macro environment, and that’s what people seem to be wrestling with before activity picks up.”
The five largest Wall Street firms by investment-banking and trading revenue -- Goldman Sachs Group Inc., JPMorgan Chase & Co., Citigroup Inc., Bank of America Corp. and Morgan Stanley -- may not get much relief from their advisory work.
While the dollar value of completed mergers and acquisitions is up slightly for the first two months of the quarter from the same period last year, debt and equity underwriting totals have fallen. And trading has come to dwarf investment banking on Wall Street: The five firms booked more than five times as much revenue from trading in the first half as from advisory and underwriting.
Trading volumes dropped in July and August as investors weighed data that hinted at a stalled economic recovery. Growth in gross domestic product in the second quarter was cut to 1.6 percent from the initial 2.4 percent. Sales of new homes in the U.S. dropped in July to the lowest level on record, and consumer confidence that month had the biggest decline since 2008. The Federal Reserve said on Aug. 10 that growth will likely be at a “more modest” rate than anticipated.
Equity investors have traded a daily average of 14.2 billion shares on U.S. exchanges so far in the third quarter, according to Bloomberg data. That’s the worst start of any quarter since the first three months of 2009, when the Standard & Poor’s 500 Index touched its lowest point in almost 13 years, and 25 percent less than the average for last year’s third quarter, the data show.
To match the volume of the third quarter of 2009, investors would have to trade an average of 30.6 billion shares a day for the rest of September. That’s more than twice the daily average so far this quarter and higher than any single day since 2006.
Trading of U.S. equity options has declined for each of the past three months after jumping to a record 405 million contracts in May. Average daily volume on U.S. exchanges in the third quarter has fallen to 13.3 million contracts a day, down 23 percent from the prior quarter, according to data compiled by Bloomberg and Options Clearing Corp., the Chicago-based firm responsible for settling all U.S. options trades.
The average daily dollar amount of U.S. Treasuries traded in July and August was down 1.7 percent from 2009’s third quarter and 13 percent from last quarter, according to data from ICAP Plc, the world’s largest inter-dealer broker.
“The major investment banks are very dependent on high transaction volume, so there’s no escaping that being a drawback to their bottom-line results,” said William Fitzpatrick, a financial-industry analyst with Milwaukee-based Optique Capital Management, which oversees about $700 million, including JPMorgan and Bank of America shares. “I think we’ll get a sizable bounce in the fall, only because we’re coming off such a depressed level. That’s typical of the summer months, though this summer was worse than previous years.”
Spokesmen for the five banks declined to comment about third-quarter trading and investment-banking revenue.
While trading volumes are an indicator of performance, they may not correlate directly with firms’ revenue because banks make money on changes in the value of the securities they hold and transaction fees that may not be related to volume.
Even if volumes stay low, fixed-income trading revenue will probably improve from the second quarter because firms are less likely to have bets that cause large losses than they had in the last quarter, said Brad Hintz, an analyst at Sanford C. Bernstein & Co. in New York.
Second-quarter fixed-income revenue at JPMorgan and Goldman Sachs missed some estimates as credit concerns spiked and the yield spread between corporate bonds and similar Treasuries widened 47 basis points over the three months. The spread has narrowed 16 basis points this quarter to 180 basis points, according to the Bank of America Merrill Lynch Global Broad Market Corporate Index.
“The big fixed-income players, JPMorgan and Goldman, performed badly in the second quarter, and the reason was they went into the quarter positioned for the credit markets to improve,” Hintz said. “They’ve positioned themselves much better for market conditions now.”
The five firms generated $67.1 billion in the first half of the year from advisory, debt and equity underwriting, and from trading stocks and bonds. That was down 12 percent from a year earlier. Trading and investment banking account for 34 percent of the five firms’ total revenue, ranging from 81 percent at New York-based Goldman Sachs to 21 percent at Bank of America in Charlotte, North Carolina.
Analysts surveyed by Bloomberg have cut their average third-quarter revenue estimates for the five banks by a total of $994 million since the beginning of August, to $90.9 billion from $91.9 billion, as they have scaled back expectations.
“Sales and trading, certainly for everybody, has been the dominant business over the last few years,” Seth Waugh, chief executive officer of Deutsche Bank AG’s Americas division, said in a Sept. 2 Bloomberg Radio interview. “That’s decreased, volumes have decreased and margins have decreased a little bit. That doesn’t mean that it isn’t going to be a great business again. It just means that it’s probably going to go through a little bit of a trough right now.”
Companies worldwide completed $247.3 billion of mergers and acquisitions in the first two months of the quarter. That’s up from the same period last year, when they completed $239.3 billion of deals before ending the quarter with $352.7 billion.
A higher level of activity in announced deals may give hope for future quarters. Companies announced deals totaling $404.5 billion in July and August, more than double the $195.2 billion a year earlier. Those included a $40 billion hostile takeover bid by Melbourne-based BHP Billiton Ltd., the world’s largest mining company, for Potash Corp. of Saskatchewan Inc.
“If the M&A market picks up the way I think it will, then M&A will give a boost to get trading going again,” Bove said in an Aug. 23 Bloomberg Television interview. “This recovery in trading is not going to be very dramatic, and it’s not going to be very quick. It’s going to be over a longer period of time.”
Hong Kong IPOs
Revenue may be diminished in future quarters as firms spin off, sell or shut down their proprietary trading desks to comply with the Volcker rule, which was passed in July as part of the U.S. financial overhaul. Goldman Sachs plans to disband its principal strategies business and New York-based JPMorgan will shut down its proprietary trading operations, people familiar with those plans have said.
Investment banks are having trouble taking advantage of one growth area. Hong Kong initial public offerings this year have raised almost five times as much as they did in the first eight months of last year, led by the $12 billion portion of Agricultural Bank of China Ltd., the world’s biggest IPO. Bankers are charging the lowest fees on record, just 2.2 percent on average, to arrange the IPOs, compared with 6.4 percent fees in the U.S., according to data compiled by Bloomberg.
The low trading volumes may also have an impact on some banks’ retail brokerage businesses, including Bank of America Merrill Lynch and Morgan Stanley Smith Barney. Morgan Stanley, based in New York, pushed back its brokerage profitability goals in July, saying that the May 6 market plunge scared away individual investors.
“Retail is absolutely moribund, there’s nothing going on in retail,” Sanford Bernstein’s Hintz said. “The retail investor has dug his foxhole and put on his helmet, and he’s just sitting there.”
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