UBS re­treat fore­shad­ows Wall Street cuts: Bern­stein

The Pak Banker - - Front Page -

NEW YORK

Wall Street firms must slash pay and head­count and shed al­most a third of their trad­ing­busi­ness as­sets to earn even half the re­turns they once made, ac­cord­ing to San­ford C. Bern­stein an­a­lysts.

So-called risk-weighted as­sets at US banks have to shrink 33 per­cent and Euro­pean lenders must slice 28 per­cent, Bern­stein an­a­lysts led by Brad Hintz and Chi­ran­tan Barua wrote in a note to clients Fri­day.

The firms also must cut their com­pen­sa­tion ra­tio to 40 per­cent of rev­enue from 50 per­cent by fir­ing high- paid manag­ing di­rec­tors and re­plac­ing some traders with com­put­ers, they wrote.

“This im­plies that the in­dus­try is likely to shrink, and more firms will ul­ti­mately need to fol­low UBS to the exit,” the an­a­lysts wrote, re­fer­ring to the de­ci­sion last month by UBS AG (UBSN) to scale back its trad­ing busi­nesses. “Over the next few years we ex­pect ram­pant con­sol­i­da­tion.”

Firms pro­duced re­turns on eq­uity, a mea­sure of prof­itabil­ity, of al­most 20 per­cent from their cap­i­tal-mar­kets units in 2006 and al­most 30 per­cent in 2009, ac­cord­ing to San­ford Bern­stein. The cur­rent trad­ing en­vi­ron­ment, along with new de­riv­a­tives rules that will re­duce mar­gins and cap­i­tal re­quire­ments that limit lever­age, would cut ROEs to about 4 per­cent, ac­cord­ing to the note.

“We be­lieve the ad­van­tages of scale, tech­no­log­i­cal ef­fi­ciency, and trad­ing dis­ci­pline will be­come in­creas­ingly im­por­tant, par­tic­u­larly to firms at­tempt­ing to be among the last stand­ing,” the an­a­lysts wrote. Even scaled­back firms will strug­gle to beat their cost of eq­uity cap­i­tal, which is about 10 per­cent, they wrote. Last month, UBS an­nounced it was largely ex­it­ing its fixed- in­come trad­ing busi­ness, and Royal Bank of Scot­land Plc ear­lier this year elim­i­nated most of its eq­uity- trad­ing unit. Many banks are al­ready em­bark­ing on plans to re­duce costs and risk-weighted as­sets. Mor­gan Stan­ley (MS) laid out a plan in Septem­ber to cut 35 per­cent of RWAs in its fixed- in­come trad­ing unit. Gold­man Sachs Group Inc. (GS) plans to cut its to­tal RWAs by 3.8 per­cent by the end of next year and said in July it plans to trim $500 mil­lion in an­nual ex­penses, mostly from com­pen­sa­tion.

Banks whose trad­ing busi­nesses sur­vive the fall­out may re­ceive some ben­e­fit from be­ing able to charge higher prices as com­peti­tors exit, the Bern­stein an­a­lysts wrote. Even with the prof­itabil­ity chal­lenges, the an­a­lysts ex­pect cap­i­tal-mar­ket rev­enue to in­crease 6 per­cent to 7 per­cent a year over the next five years. “With this growth tra­jec­tory and the strate­gic im­por­tance of cap­i­tal-mar­kets ac­tiv­i­ties within broader client re­la­tion­ships, these busi­nesses can­not be aban­doned lightly,” Hintz and Barua wrote.

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