FICC rides to the rescue

IFR 2156 22 October to 28 October 2016
7 min read

FIXED-INCOME TRADING, the bête noire of investment banking for so long, bailed out what might have been an otherwise so-so third-quarter performance for the Big Five US firms as clients regained some sangfroid and showed more willingness to trade. Now, how often have you heard that?

Net revenues from this line for (in alphabetical order) BAML, Citi, GS, JPM and MS went above US$14bn in Q3, comparatively rising a full 10 percentage points year-on-year to account for half of aggregate net revenues from trading, underwriting and advisory.

The Q3-on-Q3 average increase in fixed-income trading was an impressive 62%, pulled up by Morgan Stanley’s heady 154% rise (excluding debt value adjustments) from US$583m to US$1.48bn - which I imagine was gratifying for a firm that has expended so much time and effort to rework its franchise. Stanley’s Q3 performance still put it some way off the running in terms of quantum; then again it is hardly trying to become a global flow monster.

Even if equities had a relatively unexceptional time by comparison (-6.7% for the Big Five, but Citi notably underperforming with a 34% decline; BAML at -17%), aggregate trading once again hit 75% of net revenues at US$20.7bn.

What was perhaps as satisfying as the numbers themselves was the broad-based nature of Q3 FICC performance. BAML put its 39% increase down to a stronger global performance across credit products, led by mortgages, and continued strength in rates products and client financing. Citi’s +35% was driven by an improvement in rates, currencies and spread products. Goldman generated its +34% showing from significantly higher net revenues in rates and credit, plus higher net revenues in mortgages (partially offset by lower net revenues in currencies and commodities).

JPM, +48%, said rates was particularly strong but credit and securitised products revenue was also higher, driven, the bank said, by improving market sentiment across primary and secondary markets which produced robust issuance volumes and strong client trading activity. Morgan Stanley’s tripling was driven principally by credit and rates.

Strong fixed-income trading forced a recession in the relative contribution to earnings from the other side of the bank in a proximate 4-8-12 formation in investment banking: 4% of net revenues (US$1.24bn) from ECM; 8% (US$2.27bn) from advisory; 12% (US$3.57bn) from DCM. The numbers here by definition mirrored underlying activity.

Worldwide deal-making in M&A was off 22% in the first nine months of the year, the slowest period in three years (impacting GS, BAML and MS most heavily in Q3). In similar vein, global ECM activity fell 28% to a four-year low at the 9M16 stage (Citi hit hardest in Q3). But there was a ray of hope here as global IPO activity picked up 69% in Q3 relative to 2015 and was 3% ahead of Q216.

DCM continued to power ahead, rising 27% in the first nine months of 2016 and posting the strongest nine-month period since 2007 even if Q3 numbers were off 13% compared with Q216. Citi in particular (+32%) and BAML (+21%) were outperformers here.

I’M NOT GOING to venture a guess as to whether the latest numbers will be replicated in Q4, or on the returns the US behemoths were able to generate or whether we’re at a turning point in investment banking fortunes as 2017 beckons.

One thing that did occur to me, though, as I perused the Q3 data was whether the performance of the US Big Five was more a reflection of the rosier US capital markets and would become more so, as opposed to a window on to global activity.

I got to thinking whether US results are actually an increasingly poor guide to their European counterparts. We’ll know soon enough as the Europeans start to push out their numbers. On the basis that I could be off the mark here, let me phrase my observation as a question: is it reasonable to expect US and European bank performance data to start to contain more arresting quarter-on-quarter divergences either in swing intensity or directionally as the underlying economies start to diverge?

While the CEO comments in the Q3 US bank results announcements were general and reflected global events, the US banks do the majority of their business in their own back yard. Business conditions for investment banks in the Land of the Free have been better than in Europe for some time, reflecting the better economy and greater issuer preparedness to utilise deeper capital markets.

While Citi’s Institutional Client Group is pretty diversified regionally and generated just 38% of its US$8.63bn Q3 revenues from North America, three-quarters of Morgan Stanley’s US$8.91bn came from the US; just 14% was EMEA-driven versus Citi’s 30%. In 2015, Goldman Sachs’ revenues were in the middle of current MS and Citi numbers – 57% of net revenues came from the Americas.

Even if 9M16 IB fees (capturing M&A, underwriting and syndicated lending) fell 18.5% in the US from the previous year to US$32bn, the US still represented 53% of the global IB wallet. EMEA’s share fell by 12.2% year-on-year, mirroring the 12.4% increase in Asia-Pacific such that each region represents a quarter of the global take.

The US Big Five share the bulk of US wallet and compete aggressively in EMEA and APAC while their European counterparts get much less of a look-in in the fortress US (most have stopped even trying as a result of strategic U-turns and/or failed adventures).

ASSUMING US GROWTH and rate normalisation continue to outpace Europe, and Europe continues to be beset by negative rates and poor sentiment, you’d expect that at the same time as benefiting from better home-market conditions, US banks will be in a better position to capture market share while Europe is down and while the big European CIBs that still have the stomach to compete like-for-like struggle through transitional stages of their restructurings.

I’ll do a reprise after the European bank reporting season.

Keith Mullin