Investment banking
So long, banker
Oct 25th 2001 | LONDON AND NEW YORK
From The Economist print edition
Investment banks are having a dreadful year, with thousands of jobs cut. The future looks no better
Get article background
WAS it only last February that Jack DiMaio's threat to quit prompted his employer, CSFB, to offer the bond trader a 50% pay rise, to about $45m over three years—guaranteed no matter how he performed? These days, investment banks are desperate for their workers to quit. With as much hope as realism, CSFB is trying to scrap the guaranteed pay packages it awarded to Mr DiMaio and many others, and is axing 2,000 bankers. On October 22nd, Merrill Lynch invited most of its 65,900 staff (though not its 15,000 brokers in America) to apply for voluntary redundancy, in order to help it cut about one-sixth of its workforce.
Investment banking is now in its worst recession since the mid-1970s. Given the rapid growth and globalisation of the industry—worldwide employment in investment banks has risen by about four-fifths in the past decade, to around 400,000—the scale and reach of this slump is unprecedented. Since the salad days of just 18 months ago, worldwide revenues from investment banking have fallen on average by 43% at the big firms, and profits by 49%, according to Boston Consulting Group (BCG). As the chart below shows, Morgan Stanley saw the largest fall in revenues, and Goldman Sachs the sharpest fall in profitability, between the first quarter of 2000 and the third quarter of this year—though every investment bank has suffered.
Banks have suffered most in those areas that grew fastest. Underwriting initial public offerings (IPOs) of shares is one of the juiciest bits of investment banking. In the first quarter of 2000, $144 billion of equity capital was raised worldwide in IPOs, but only $44 billion in the third quarter of this year; there were no IPOs at all in September. Advising on mergers and acquisitions (M&A), another lucrative business, has also had an awful year. Deals announced in the first nine months of this year were worth $1.5 trillion, half the levels of a year earlier. The falling value of shares has cut the fees from asset management. Goldman Sachs has seen the fees from managing the assets of private clients drop from over $25m a week to less than $18m.
Lively markets in underwriting corporate bonds offset this to a degree—admittedly, mainly in investment-grade bonds, where the fees are slim, rather than junk bonds, which are more profitable. Credit derivatives have fared well, too. Providing brokerage to financial institutions, from pension funds to hedge funds, has also grown strongly, since fund managers have been adjusting their portfolios to reflect changing economic times and greater stockmarket volatility. Online trading by individuals, on the other hand, has ground almost to a halt. Who wants to turn on the computer, says Richard Strauss at Goldman Sachs, when looking at your portfolio makes you feel sick?
Until recently, investment banks had been reluctant to make deep job cuts, for fear of damaging their franchise—something Merrill Lynch did in 1998-99, when it fired a lot of employees at a time of market crisis only to have to try to rehire them a few months later. Is Merrill making the same mistake again? “I can't believe how they have done this,” says a boss of a rival firm. “How can you possibly instil confidence in your employees when you offer all of them redundancy?” Stanley O'Neal, who has taken over day-to-day management from Merrill's chief executive, David Komansky, has recently made several decisions that appear to many to be unduly aggressive: more about establishing that he is in control than implementing good strategy. On the other hand, Merrill's employee costs, as a proportion of revenues, are second only to CSFB's—and every other investment bank is looking at each bit of its business in search of cuts.
Uncertainty reigns. “Investment banks really do not know whether to prepare for a disastrous year or a more ordinary one,” says Svilen Ivanov of BCG. Investment banks with headquarters in New York seem to be taking the most aggressive approach to cost-cutting. Don Layton, co-head of J.P. Morgan Chase's investment bank, says that in this uncertain environment you “don't want to bet your life on a forecast. This makes you more interested in a flexible cost structure, and more radical in cutting.” Chip Mason, the head of Legg Mason, a brokerage based in Baltimore, says that his counterparts in New York have a more aggressive approach to cuts than his firm does, because the terrorist attacks happened there.
A recovering economy should help to revive M&A activity. Yet “pure” investment banks such as Goldman Sachs and Morgan Stanley may continue to lose out in M&A to investment banks attached to large commercial banks—the likes of Deutsche Bank, CSFB (owned by Crédit Suisse) and Salomon Smith Barney (part of Citigroup). These can offer cut-price loans to corporate clients in order to win M&A business. In his firm's defence, John Thain, one of Goldman's bosses, argues that the slump “has made competition from fee-cutting by banks less effective, as clients feel a greater need for the best ideas and best execution.” Still, the problem is not going to go away.
Investment bankers in Europe are rather more upbeat than their American counterparts. As some doors close, others open: if their equity business has slumped, their bond business is brisk. Institutional investors may not be buying IPOs, but they are certainly hedging, which keeps equity and interest-rate derivatives desks busy. Companies that cannot raise money by selling shares are issuing convertible bonds. And some private-equity players, with nerves, look forward to action in six months' time, when companies begin to shed unwanted divisions.
Deutsche Bank, ABN Amro and J.P. Morgan Chase, hybrid investment and wholesale banks, are taking comfort from their more boring “annuity” businesses—foreign exchange, custody and transaction services—which are less sensitive to business cycles. That is a cushion against their more volatile investment-banking returns. But what may not be clear before the end of the year is the damage done to loan books. Investment banks are not immune: how many short-term bridging loans have been repaid since September 11th?
As they wield the axe, the heads of the biggest investment banks hope that they are merely chopping away the forced growth of the past two years, bringing a healthier cost structure back to the industry. The success of this strategy of “back to normal” hangs on a strong recovery in the economy, America's and the world's, during 2002. If that does not transpire, far deeper cuts will be unavoidable
So long, banker
Oct 25th 2001 | LONDON AND NEW YORK
From The Economist print edition
Investment banks are having a dreadful year, with thousands of jobs cut. The future looks no better
Get article background
WAS it only last February that Jack DiMaio's threat to quit prompted his employer, CSFB, to offer the bond trader a 50% pay rise, to about $45m over three years—guaranteed no matter how he performed? These days, investment banks are desperate for their workers to quit. With as much hope as realism, CSFB is trying to scrap the guaranteed pay packages it awarded to Mr DiMaio and many others, and is axing 2,000 bankers. On October 22nd, Merrill Lynch invited most of its 65,900 staff (though not its 15,000 brokers in America) to apply for voluntary redundancy, in order to help it cut about one-sixth of its workforce.
Investment banking is now in its worst recession since the mid-1970s. Given the rapid growth and globalisation of the industry—worldwide employment in investment banks has risen by about four-fifths in the past decade, to around 400,000—the scale and reach of this slump is unprecedented. Since the salad days of just 18 months ago, worldwide revenues from investment banking have fallen on average by 43% at the big firms, and profits by 49%, according to Boston Consulting Group (BCG). As the chart below shows, Morgan Stanley saw the largest fall in revenues, and Goldman Sachs the sharpest fall in profitability, between the first quarter of 2000 and the third quarter of this year—though every investment bank has suffered.
Banks have suffered most in those areas that grew fastest. Underwriting initial public offerings (IPOs) of shares is one of the juiciest bits of investment banking. In the first quarter of 2000, $144 billion of equity capital was raised worldwide in IPOs, but only $44 billion in the third quarter of this year; there were no IPOs at all in September. Advising on mergers and acquisitions (M&A), another lucrative business, has also had an awful year. Deals announced in the first nine months of this year were worth $1.5 trillion, half the levels of a year earlier. The falling value of shares has cut the fees from asset management. Goldman Sachs has seen the fees from managing the assets of private clients drop from over $25m a week to less than $18m.
Lively markets in underwriting corporate bonds offset this to a degree—admittedly, mainly in investment-grade bonds, where the fees are slim, rather than junk bonds, which are more profitable. Credit derivatives have fared well, too. Providing brokerage to financial institutions, from pension funds to hedge funds, has also grown strongly, since fund managers have been adjusting their portfolios to reflect changing economic times and greater stockmarket volatility. Online trading by individuals, on the other hand, has ground almost to a halt. Who wants to turn on the computer, says Richard Strauss at Goldman Sachs, when looking at your portfolio makes you feel sick?
Until recently, investment banks had been reluctant to make deep job cuts, for fear of damaging their franchise—something Merrill Lynch did in 1998-99, when it fired a lot of employees at a time of market crisis only to have to try to rehire them a few months later. Is Merrill making the same mistake again? “I can't believe how they have done this,” says a boss of a rival firm. “How can you possibly instil confidence in your employees when you offer all of them redundancy?” Stanley O'Neal, who has taken over day-to-day management from Merrill's chief executive, David Komansky, has recently made several decisions that appear to many to be unduly aggressive: more about establishing that he is in control than implementing good strategy. On the other hand, Merrill's employee costs, as a proportion of revenues, are second only to CSFB's—and every other investment bank is looking at each bit of its business in search of cuts.
Uncertainty reigns. “Investment banks really do not know whether to prepare for a disastrous year or a more ordinary one,” says Svilen Ivanov of BCG. Investment banks with headquarters in New York seem to be taking the most aggressive approach to cost-cutting. Don Layton, co-head of J.P. Morgan Chase's investment bank, says that in this uncertain environment you “don't want to bet your life on a forecast. This makes you more interested in a flexible cost structure, and more radical in cutting.” Chip Mason, the head of Legg Mason, a brokerage based in Baltimore, says that his counterparts in New York have a more aggressive approach to cuts than his firm does, because the terrorist attacks happened there.
A recovering economy should help to revive M&A activity. Yet “pure” investment banks such as Goldman Sachs and Morgan Stanley may continue to lose out in M&A to investment banks attached to large commercial banks—the likes of Deutsche Bank, CSFB (owned by Crédit Suisse) and Salomon Smith Barney (part of Citigroup). These can offer cut-price loans to corporate clients in order to win M&A business. In his firm's defence, John Thain, one of Goldman's bosses, argues that the slump “has made competition from fee-cutting by banks less effective, as clients feel a greater need for the best ideas and best execution.” Still, the problem is not going to go away.
Investment bankers in Europe are rather more upbeat than their American counterparts. As some doors close, others open: if their equity business has slumped, their bond business is brisk. Institutional investors may not be buying IPOs, but they are certainly hedging, which keeps equity and interest-rate derivatives desks busy. Companies that cannot raise money by selling shares are issuing convertible bonds. And some private-equity players, with nerves, look forward to action in six months' time, when companies begin to shed unwanted divisions.
Deutsche Bank, ABN Amro and J.P. Morgan Chase, hybrid investment and wholesale banks, are taking comfort from their more boring “annuity” businesses—foreign exchange, custody and transaction services—which are less sensitive to business cycles. That is a cushion against their more volatile investment-banking returns. But what may not be clear before the end of the year is the damage done to loan books. Investment banks are not immune: how many short-term bridging loans have been repaid since September 11th?
As they wield the axe, the heads of the biggest investment banks hope that they are merely chopping away the forced growth of the past two years, bringing a healthier cost structure back to the industry. The success of this strategy of “back to normal” hangs on a strong recovery in the economy, America's and the world's, during 2002. If that does not transpire, far deeper cuts will be unavoidable
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