Wall Street’s Profit Boost From Asia Derivatives Boom May Stall

Earnings at investment banks including Goldman Sachs Group Inc. and Citigroup Inc. received a boost in the first half as access to China helped increase derivatives sales and trading income from the region. Gains may moderate as the stock rally subsides.

Financial statements and post-earnings commentary from Credit Suisse Group AG, UBS Group AG, Societe Generale SA and Deutsche Bank AG also highlighted derivatives and structured products’ impact with the German bank saying in its 2015 interim report that revenues in equity derivatives in the second quarter were “significantly higher than the prior year quarter driven by strong performance in Asia.”

More exposure to Chinese markets was the biggest contributing factor to the increase in equity derivatives and overall equity sales and trading income in Asia Pacific in the first half, according to London-based analytics firm Coalition Development Ltd. Shares in Shanghai had their biggest one-day drop since February 2007 last month and have declined in four of the last five trading sessions as turnover waned and concern grew that unprecedented government intervention is driving away investors. Even so, they’re still up 14.2 percent this year.

“Most structured derivatives were driven by strong client flow from private banks and wealth managers,” Eric Li, a director in the research and analytics team at Coalition, said. “The size of Asia’s equity derivatives revenue isn’t significantly smaller than the U.S. and Europe for some banks, so when Asia outperforms, it’s a huge boost to global top line revenue.”

‘Much Stronger’

Addressing analysts on a July 27 conference call after second-quarter earnings, UBS Chief Financial Officer Tom Naratil said the bank has been “outgrowing the market” in Asia, particularly in the ultra-high net worth segment. “I do think we had a much stronger performance in Asia Pacific, both in derivatives as well as in our institutional flow businesses,” he said.

JPMorgan Morgan Chase & Co. moved its international head of structured product sales, David Hansson, to Hong Kong from London in November.

Li estimates the market for equity derivatives in Asia grew about 25 percent in the first six months. While linking the Hong Kong and Shanghai bourses lifted sales of equity-linked products, the slump in shares may mean a slowdown in the second half, according to Cyrille Troublaiewitch, the Hong Kong-based head of Citigroup’s multi asset group for Asia Pacific.

Yield Search

That trend’s already evident in Japan. Sales of equity-linked versions of so-called uridashi notes, which are targeted at individuals, rose to a more than two year high in May before reversing as China’s stock rout unsettled investors. Ten-year Japanese government bonds yield negative 0.54 percent when adjusted for expectations included in inflation-linked debt.

“The search for return in a low-yield environment, the diverse needs of clients in Asia Pacific and the relaxation of several regulations will lead to strong demand from institutional clients and new opportunities within the region,” Troublaiewitch said. Business related to China may be less “but it’s not a dead business for derivatives and structuring,” he said.

Should equity-tied transactions slow, derivatives linked to other asset classes such as credit and rates may take up the slack, according to William Shek, the Hong Kong-based head of credit and rates for Asia Pacific at HSBC Holdings Plc.

“The equity space is like a roller coaster ride, it’s a lot more volatile,” Shek said. “For the rest of the year, we may see some money flowing back into the credit, foreign exchange and interest rate space, which is more consistent and has been growing steadily.”