JPMorgan Chase & Co. Chief Executive Officer Jamie Dimon and Goldman Sachs Group Inc. CEO Lloyd C. Blankfein predict Wall Street will rebound from 2011’s trading-revenue plunge. Rivals and analysts aren’t so sure.
Fourth-quarter earnings reported by the six largest U.S. banks show the industry suffered a third straight quarterly drop in combined trading and investment-banking revenue. On conference calls this week, analysts are pressing executives with a similar refrain: Is it a temporary rut or a lasting shift to smaller volumes, profits and pay?
“This is a big debate,” said Paul Miller, a former examiner for the Federal Reserve Bank of Philadelphia and an analyst at FBR Capital Markets in Arlington, Virginia. “A lot of bears are saying it is due to regulation and deleveraging, and some are saying it is cyclical. I think it’s some of both.”
Executives and analysts are focusing on whether stiffer regulations, capital rules and a weak economy may solidify a decline in revenue after the European debt crisis curbed trading volume and corporate dealmaking in last year’s second half. Credit Suisse Group AG, UBS AG and Royal Bank of Scotland Group Plc, which are all shrinking their investment banks, have announced plans to eliminate about 8,300 jobs since the start of November.
“We’d all hoped that the headwinds to our business, including low levels of client activity, low interest rates, market volatility and political uncertainty around the world would subside,” Credit Suisse CEO Brady Dougan told analysts Nov. 1. The bank said that day it would cut about 1,500 jobs, in addition to 2,000 previously announced, and reorganize its securities unit after reporting third-quarter profit that missed analysts’ estimates. “It’s now clear, however, that these secular trends may persist for an extended period,” he said.
Dimon and Blankfein have since sought to reassure investors that markets and earnings from securities units will rebound.
“The world will snap back, and it will be a surprise, and it will be faster than people think,” Blankfein, 57, said at a Nov. 15 investor conference. Yesterday, Chief Financial Officer David Viniar echoed the remarks after the firm said trading revenue fell 25 percent from the third quarter to $3.06 billion.
“We are clearly in a cyclical downturn,” rather than a secular decline, Viniar said. “There is less activity that is cyclical. That will come back. I have no idea when, but it will come back.”
Dimon, 55, said investment banking is a volatile business in which volumes can swing by 50 percent daily.
“It’s not a mystical thing,” he told reporters on a Jan. 13 conference call. “You just have to manage the business carefully and understand it’s going to have those kinds of swings. I don’t think the lower numbers are permanent. I think when things come back, these numbers will boom again.”
Equity issuance across the world fell to $163 billion in the last half of 2011, down 53 percent from the first six months, according to data compiled by Bloomberg. Corporate bond issuance also skidded amid the European crisis and a weaker-than-expected U.S. economy.
Government efforts to prevent banks from trading with their own money also have an impact that may last, said Charles Bobrinskoy, the Chicago-based vice chairman and director of research at Ariel Investments, which has about $5 billion under management and owns shares of New York-based Goldman Sachs, JPMorgan, Citigroup Inc. and Morgan Stanley.
“It’s a little of both -- it’s a little bit of secular, a little bit of cyclical,” he said.
It doesn’t help that lawmakers and regulators are seeking to limit financial maneuvers that boosted or masked leverage in the past, such as off-balance-sheet conduits, variable-interest entities and collateralized debt obligations, said Richard Bove, an analyst at Rochdale Securities LLC in Lutz, Florida.
“There’s no more CLOs, CDOs, CDOs squared, CDOs cubed,” Bove said, referring to asset-linked securities and financial instruments at the heart of 2008’s U.S. financial crisis. “The leverage isn’t there and the market isn’t there. Banks can’t grow at the same rate.”
Citigroup reduced employees’ 2011 compensation to account for a temporary decline in trading volumes and investor appetite, CEO Vikram Pandit, 55, told analysts Jan. 17. The bank also restructured reserves and sold certain assets where it sees a permanent shift in the market, he said.
“There’s no magic answer,” Pandit said. “It’s very hard to parse out exactly what part of the activity we’re seeing is the cause of the cyclical situation versus how much is secular.”
BofA, Morgan Stanley
Citigroup, the third-biggest U.S. bank by assets, said Jan. 17 that net income dropped 11 percent as lower revenue from advising companies and trading securities led its investment bank to the first quarterly loss since 2008.
Goldman Sachs said fourth-quarter net income fell 58 percent, as revenue slid 30 percent. JPMorgan, the biggest U.S. bank, said last week that net income decreased 23 percent as investment bank earnings fell. San Francisco-based Wells Fargo & Co., which relies least on trading among the six banks, said a focus on loans helped soften a 4 percent drop in revenue. Its profit rose 20 percent.
Bank of America Corp. reported a second consecutive quarterly loss today in its global banking and markets division, which includes trading and underwriting operations. The entire company swung to a $1.99 billion profit from a year-earlier loss as mortgage charges eased. Morgan Stanley lost $250 million during the quarter, as trading volumes and mergers and acquisitions fell.
“It’s either a slow cyclical recovery or secular, and I don’t think it’s clear what it is,” Morgan Stanley Chief Financial Officer Ruth Porat said today in a telephone interview. “However you look at it, it’s a slower growth environment.” Morgan Stanley has reduced headcount to account for the slower-than-expected recovery, she said.
The grim outlook for trading was a recurring topic on Goldman Sachs’s analyst call.
“Your revenue weakness recently, are you saying none of that is due to secular factors?” Mike Mayo, an analyst at independent research firm CLSA in New York, asked Viniar during the bank’s conference call. “It’s all cyclical? There’s no structural change that’s hurting your revenues?”
The market doesn’t seem any worse than the fall of 2008 or when the bubble in technology stocks burst years earlier, Viniar said in response to analysts’ questions. Still, he would never be so bold as to rule out a lasting change, he said.
“We’ve all been doing this for a long time and we’ve seen downturns before,” he said. “Every time you’re in one it feels like it’s never going to end and this world is different now.”
“So is it cyclical? Is it secular?” Viniar said. “It’s a very difficult question to answer.”