London: Brexit is the last thing investment banks needed.
Friday’s currency swoons and stock rout — triggered by UK voters’ surprise decision to withdraw from the European Union — herald even harder times for securities firms already struggling to improve earnings.
While some trading desks made money in the initial turmoil, continued market volatility in months ahead poses danger to trading profits. And companies that hire banks to advise on takeovers and raise money face years of uncertainty as Britain negotiates new international ties.
Analysts on both sides of the Atlantic cut earnings estimates for the biggest investment banks on the expectation that securities sales and major deals will be thwarted by economic and political uncertainty and currency swings. Fees from that business are likely to “tank,” dropping more than 30 per cent this year at European banks, Sanford C. Bernstein analyst Chirantan Barua wrote.
Analysts at Citigroup Inc and JPMorgan Chase & Co estimated lower underwriting volumes in the UK and Europe.
“In light of such uncertainty, a lot of primary deals will be put on hold in equity and debt,” said Joseph Dickerson, an analyst at Jefferies International Ltd. in London.
On the bright side, “the next week is going to be OK in terms of trading volumes.”
Surprised CEOs
Bank stocks plunged worldwide Friday in anticipation of less profit as the British pound slid the most on record and global equities lost more than $2 trillion (Dh7.34 trillion) of value. Hans Humes, who runs hedge fund firm Greylock Capital, a specialist in distressed bonds, told Bloomberg Television on Sunday he watched fellow investors take a “step back,” leading to wider spreads on relatively muted volume. Such caution threatens to stifle the corporate bond market.
Lower revenue in European markets will probably chop earnings over the coming four quarters by an average of 4 per cent at the biggest US firms, Wells Fargo & Co’s Matt Burnell said Friday. Those banks and their European counterparts may face a risk-off approach from trading clients, may of whom could be dealing with their own issues of losses and redemptions. Trading units already were coming off their worst first quarter since 2009.
“The pound and euro currencies are experiencing extreme movements, which could cause some clients to experience significant trading losses,” wrote Mike Mayo, a bank analyst at CLSA Ltd. “However, given that this was a much more anticipated event, banks should have been better positioned heading into the vote [we’ll see].”
In the short term, currency trading desks may have seen the biggest benefit, as many banks saw very high volume last week even after warning clients they may not be willing to take on principal risk. Jamie Dimon, the chairman and chief executive officer of JPMorgan, said his firm saw record foreign-exchange volume, at one point processing 1,000 trading tickets per second.
Trading ‘bombs’
Some analysts, though, caution bad trades may surface.
“Investment bank trading books could see some bombs go off as positions are exposed, albeit we would hope any sensible traders would have already hedged their positions for a Brexit scenario,” Gary Greenwood, an analyst at Shore Capital, wrote in a note to clients.
While banks have been operating with lower levels of trading inventory in the past, leaving them less vulnerable to large writedowns, “gapping” movements in credit spreads could still hurt trading revenues, JPMorgan analyst Kian Abouhossein wrote.
Barclays Plc, whose investment bank has been reshaped for almost a decade under three successive CEOs, posted its biggest drop in more than seven years on Friday, tumbling 18 per cent. Its shares were cut to sell at Citigroup. Deutsche Bank AG, Europe’s largest securities firm, slid 14 per cent. Stateside, investment banks didn’t do much better with Morgan Stanley down 10 per cent.
HSBC Holdings Plc, Standard Chartered Plc and Nomura Holdings Inc extended declines in Asia trading early Monday. Nomura and Japanese competitor Daiwa Securities Group Inc. are heading for their biggest two-day drop since March 2011 after Jefferies downgraded the stocks on concern that Brexit will hurt earnings.
Reeling banks
Banks worldwide have been slashing staff and leaving areas across trading and investment banking as revenue slumped and the businesses required more capital under new global rules. They’re facing issues from difficulty placing leveraged-loan deals in the US to turnover in Asian equities shrinking at the fastest rate in a decade.
Revenue from fixed-income trading at the biggest global firms has fallen by 36 per cent over the past five years, according to data from Coalition Development Ltd. While investment banking has been steady in recent years amid record-low interest rates, market turmoil early this year led to a dropoff in mergers and stock sales.
“Uncertainty always slows down M&A activity,” Evercore Partners Inc. CEO Ralph Schlosstein said Sunday in a Bloomberg Television interview with David Westin and Guy Johnson. “The spread between what buyers want to pay and what sellers are willing to accept widens out a lot.”
More threats
Brexit also raises the specter that England Governor Mark Carney may use negative interest rates to support the economy, a tool that has hurt banks’ lending margins when applied in other countries. And lenders that still need to meet higher capital requirements will find it harder to tap equity markets.
Brexit “will exacerbate the processes of disintermediation and negative rates that are weighing on investment banks,” said Emad Mostaque, a London-based strategist at emerging-markets consultancy Ecstrat Ltd, who said some bank staff could move to Dubai. Volatility should help trading desks, but as more exceptional moves occur “the more pressure will be put on bank balance sheets, and the less stable they become.”
