Investment banking, after five long, hard years of negative or anemic growth, job cuts, pay cuts and public lashings, is on the verge of a comeback. Really, it is -- if the data can be believed.
All the economic statistics show that the markets are ripe for a rebound in mergers and acquisitions and equity issuance in 2013, dealmakers say.
Yet Bank of America Corp.’s top investment banker is guarded in his forecast, and he isn’t alone, Bloomberg Markets magazine will report in its April issue.
More from the April 2013 issue of Bloomberg Markets:
“I hesitate to be the one that says 2013 will be the year, because invariably it may not,” says Christian Meissner, BofA’s head of global corporate and investment banking. “But I think that we’re pretty close to it changing.”
The past five years haven’t been kind to investment bankers. M&A deal volume fell off a cliff after peaking at $4.1 trillion in 2007, according to data compiled by Bloomberg. Last year, it dropped 8.7 percent to $2.2 trillion after an early resurgence fizzled along with projected growth rates in emerging economies.
As 2012 proceeded, there was reason for hope. The Greek and Italian bond markets didn’t melt down like they did in 2010 and 2011. The U.S. didn’t almost default on its debt. Yet corporate chieftains continued to hoard their cash.
No Bold Deals
JPMorgan was No. 1 in the Bloomberg 20, Bloomberg Markets’ ninth annual ranking of the best-paid investment banks measured by the fees they earn. The largest U.S. lender took in $3.97 billion in fees last year, a 24.8 percent increase over 2011.
JPMorgan has topped the Bloomberg 20 in four of the past five years, and last year it was the top investment bank in debt and equity fees as well as overall. Goldman Sachs Group Inc. (GS) ranked No. 2, after scoring the No. 1 spot for 2011. Goldman led the ranking for M&A fees, as it has every year since the Bloomberg 20 began.
While fees for M&A and equity issuance fell for 2012, total fees rose 3.7 percent, to $50.9 billion, driven higher by a surge in the refinancing of corporate debt.
A single soured 2012 deal put a chill in the market. Morgan Stanley managed the initial public offering of Facebook Inc. (FB) in May -- and faced withering criticism when the Nasdaq listing was marred by technical difficulties and the stock, by September, had fallen more than 50 percent below its $38 opening price.
Facebook shares have since rebounded to $27.25 as of Feb. 28.
Even as the Dow Jones Industrial Average (INDU) topped 14,000 for the first time since 2007 on Feb. 1, corporate executives remained skittish. CEOs are choosing to conserve their cash as a result, bankers say.
“Much of M&A and capital markets activity is based on psychology,” says Mark Eichorn, who was appointed global co-head of investment banking at Morgan Stanley with Franck Petitgas in November.
Corporations around the globe were sitting on a record $1.5 trillion in cash as of Sept. 30, according to data compiled by JPMorgan Chase, even though bankers say their balance sheets have never been stronger. The Federal Reserve has held benchmark interest rates near zero for more than four years and injected trillions of dollars into the U.S. economy. Markets are liquid and stable, and investors are desperate for higher-yielding assets.
“If you look at the statistics, in terms of the drivers of M&A activities, you’d think that this would be the busiest M&A market, but it isn’t,” Bank of America’s Meissner says. “Many CEOs are comfortable waiting until some of the systemic risk recedes.”
Charlotte, North Carolina-based Bank of America Merrill Lynch fell one spot to No. 5 in the Bloomberg 20 list with $3.16 billion in fees last year.
Dell and private-equity firm Silver Lake Management LLC agreed on Feb. 5 to take Dell Inc. private for $24.4 billion in the biggest leveraged buyout since 2007. Then on Feb. 14, Buffett announced he would partner with Brazilian billionaire Jorge Paulo Lemann to buy H.J. Heinz Co. in a $23 billion deal.
Other big February transactions included the $11 billion merger of bankrupt AMR Corp., parent of carrier American Airlines, with US Airways Group Inc., and Liberty Global Inc. (LBTYA)’s plan to buy U.K. cable operator Virgin Media Inc. for $23.3 billion. That would be the biggest media company deal since a $17.4 billion merger created Thomson Reuters Corp. in 2007.
That brought total announced deals through Feb. 15 to $288.2 billion, compared with $246.6 billion for the same period in 2012.
“Make no mistake, we are seeing movement,” Cavanagh says. “As we speak to company directors, it is clear that much of last year’s uncertainty is gone for the moment.”
However, the February deals “represent the beginnings of a winter thawing, but they don’t mean a resurgence to pre-crisis deal levels just yet,” he says.
David M. Solomon, co-head of investment banking at Goldman Sachs, also sees light amid the gloom.
“Confidence around the world is better,” he says. “Markets are up all over the world. People are moving assets out of cash and more-liquid investments into more risk investments.”
Those bankers who did well in overall fee revenue in 2012 were leaders in debt underwriting, which accounted for 37.7 percent of the total fee pool, up from 27.7 percent in 2011.
A record $3.69 trillion in corporate bonds were issued last year as companies rushed to lock in low financing rates, with borrowing costs falling to an all-time-low average of 3.24 percent.
JPMorgan Chase dwarfed all competitors in debt underwriting with $1.51 billion in fees, up 43.8 percent from the year before.
The low cost of selling bonds helps explain the decline in stock issuance in 2012, says Paul Stefanick, co-head of Deutsche Bank AG (DBK)’s global investment banking coverage and advisory.
“It’s not that the equity markets were bad; it’s just that the debt markets were a much better alternative,” he says.
Absent a strong debt market, it would have been a gruesome year for investment bankers. Fees from equity issuance fell 3.9 percent to $14.6 billion, while M&A fees dropped 15.8 percent to $17.1 billion. Fees from debt issuance surged 41 percent to $19.2 billion.
Not everyone made a killing in the debt markets. UBS AG (UBSN) announced in October that it would largely exit fixed-income trading and fire a total of 10,000 workers from that and other divisions. UBS ranked No. 9 in the Bloomberg 20, with $1.97 billion in total 2012 fee revenue.
Citigroup Inc. (C), which rose two places to No. 4, with $3.18 billion in fees, said in December it would cut 11,000 jobs and pull back from some emerging-market nations. Morgan Stanley, which fell one spot to No. 3, with $3.5 billion in fee revenue, eliminated 1,700 jobs from its investment bank in January.
Regulators in the U.S. and Europe have made it more costly to be a banker since the crisis, imposing stiff new capital requirements on certain activities that have squeezed profits. Altogether, the 13 largest investment banks in 2012 announced plans to cut $15 billion in expenses, including compensation, and $1.03 trillion in risk-weighted assets, which eat up capital, consulting firm McKinsey & Co. said in a January report.
Banks that aren’t producing high-enough returns may need to shrink their geographic footprint, cut back on the services they provide or reduce compensation, bankers say.
“If you’re not earning your cost of capital, you’re probably living on borrowed time,” Cavanagh says.
Cavanagh was tapped by CEO Jamie Dimon in July to run a newly combined corporate and investment bank with Daniel Pinto after leading JPMorgan Chase’s internal investigation into the more than $6.2 billion trading loss in a London unit of the bank’s chief investment office. Pinto, who was previously co-head of fixed-income trading, helped unwind the trade and is managing the remaining position.
The combined units allow the bank “to bring the whole firm to bear for our clients,” Cavanagh says.
Most investment banking in the future will be done by a “global superleague” of universal banks like JPMorgan Chase and Bank of America that provide one-stop shopping for loans, M&A advice and other services for large corporations, BofA’s Meissner says.
The shakeout in the industry isn’t done yet, bankers say.
“I wouldn’t say that it’s rampant and having a huge impact on business now, but there’s no question that a number of players are withdrawing from certain investment-banking activities,” Goldman’s Solomon says.
For the short term, bankers hope the optimism behind the Heinz, Dell and other early 2013 deals carries forward -- and isn’t undermined by a new crisis, such as the failure of Congress and the White House to prevent massive budget cuts known as the sequester.
“We need to string a couple quarters together of decent corporate earnings, no major fiscal macro crises and some of the very constructive themes that we’ve seen in the debt and equity markets to continue in order to unlock what we all believe to be pent-up demand,” Morgan Stanley’s Eichorn says.
When the dam breaks, bankers expect the U.S. to be a major deal destination. International acquirers buying U.S. targets accounted for $218.1 billion of volume in 2012, or about 10 percent of all global deals. That amount was up 22 percent from 2011.
“They want to reposition their portfolios to a developed economy with better growth trajectories, and the United States fits that bill,” he says.
Economic stability in the U.S. also makes it an attractive target for CEOs in emerging economies such as China.
“We have fiscal cliff issues and all the political issues and a relatively low-growth economy,” Deutsche Bank’s Stefanick says. “All of which is true. But compared to the rest of the world, we’re still the cream of the crop.”
How We Crunched the Numbers
To identify the Bloomberg 20, we examined fees that investment banks collected for underwriting securities and advising on mergers and acquisitions worldwide in 2012. Not all of those commissions have been disclosed, so we extrapolated total fees from those made public in regulatory filings.
Bloomberg collected data on the underwriting fees that banks were paid for about 60 percent of equity sales and about 20 percent of bond issues in 2012.
To calculate the dollar fee, multiply the disclosed percentage by the value of the issue awarded to the underwriter. For deals whose fees weren’t disclosed, the average disclosed fee was applied. That’s the sum of the disclosed fees for a firm divided by the total value of the issues.
For firms that disclosed less than 30 percent of their fees in either equities or debt, we applied a weighted average of issues for which fees were disclosed.
Preferred stocks are included with bond issues. Because fees for preferreds tend to be higher -- the average fee in 2012 was 2.327 percent versus 0.481 percent for all other bonds -- we calculated these fees separately. Municipal and asset-backed bonds were excluded from the bond ranking, as were bonds with call periods and maturity lengths shorter than 18 months.
In equities, we calculated the fees for initial public offerings and secondary offerings separately because they tend to have different fee structures. We excluded equity-linked securities. In both equities and bonds, we excluded self-led deals, which are the sale or issuance of a financial institution’s bonds or equities by its own investment bank.
M&A fees are rarely disclosed and typically vary according to the size of a deal and whether a bank is advising the target, acquirer or seller. We based our ranking on the fees disclosed in about 600 M&A transactions going back to 2009. We took an average of the fees for advisers to targets, acquirers and sellers for deals in five different size categories and applied those percentages to transactions for which fees weren’t disclosed. We divided the fees equally among advisers.
In practice, investment-banking fees can vary from firm to firm. A bank’s position in this ranking may differ from its standing in traditional league tables, which are based on the dollar value of transactions.
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