McKinsey's Trading Prophecy Is a Wall Street Ruled by Machines

Is Software Going to Take Over Wall Street Jobs?
  • Revenue gains, cost cuts boost profit by 30%, McKinsey says
  • Fewer traders, compliance officers as assets go electronic

Wall Street’s future will be dominated by firms that embrace technology from electronic fixed-income trading to blockchain and predictive algorithms, reducing the need for people in the front and back office, according to McKinsey & Co.

Global investment banks that successfully adopt automated trading and other measures can increase profit by 30 percent, the consulting firm said in a report released Wednesday. Smaller firms should take a more targeted approach, using technology to streamline operations and trim costs, according to the paper titled “Two Routes to Digital Success in Capital Markets.”

“Banks taking the all-in route will end up with business models and economics
that look very different from those they have today,” according to the report. “On the sales and trading front, digital channels will become the default for transacting with clients. Coverage models will shift radically as banks ruthlessly examine every front-office routine and manual activity for its automation potential.”

Different Skills

Companies have cut personnel and other expenses as revenue stagnates amid post-financial crisis regulations, low interest rates and choppy markets. Combined with the advance of electronic trading -- which dominates cash equities and is gaining ground in fixed-income businesses like rates and currencies -- Wall Street’s ranks may shrink as fewer people are needed to bring clients onto a firm’s systems, execute sales, settle and reconcile transactions and monitor risk and compliance.

“It’s less aggregate number of people, and a substantially different skill set,” Jared Moon, the report’s lead author, said in an interview. “You need more engineers and big-data scientists and these kinds of folks, and less pure operators. The skill set is different, the way of operating is different. It’s not an overnight shift, but a shift over time.”

Machine learning, which uses algorithms that can learn and make predictions from data, could be used to automate trade reconciliation between counterparties, Moon said. In another instance, some strategists and quants might be replaced with analytics that let clients and salespeople value structured credit products or build structured equity products, according to the report. Blockchain, or distributed ledger, technology could help speed trade settlement.

Electronic Venues

More than 20 banks have said they’re cooperating with R3, a startup headed by a former ICAP Plc executive, to study how securities, derivatives and loans can be traded using blockchain technology. It could simplify the tracking of ownership and accelerate the transfer of assets.

Banks will acquire startups and enter new business areas, such as creating venues to electronically trade private-company shares, consumer-finance products and crypto-currencies, McKinsey said. JPMorgan Chief Executive Officer Jamie Dimon said in an April shareholder letter that his firm, the biggest U.S. lender, would compete with new Silicon Valley firms and partner with them in some instances.

Only a handful of the biggest and most sophisticated investment banks should attempt the “all-in” approach, which would take about five years to implement, Moon said. Once pioneering firms use algorithms in support functions like trade reconciliation, the industry will quickly adopt it, he said. The consultant’s report is the 10th in a series on how investment banks can improve returns.

‘Fast-Follower’ Industry

Capital markets “tends to be a fast-follower industry,” Moon said. “Something like machine learning, once it becomes the norm, everyone will very quickly move to it.”

Not every trader and compliance officer will be disrupted by the coming technology. Some aspects of fixed income probably won’t go fully electronic, he said.

“Structured rates, structured credits and some emerging markets are where the scale and volume will never warrant it to be fully digitized,” Moon said.

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