Price war heralds investment banking shake-out
LONDON, ( Reuters) Investment banks fighting for survival in a world of stricter regulation and more expensive funding are embroiled in a price war as they battle to hang on to clients. Some are offering ultra-low prices across a range of their most prominent activities such as equity and debt sales, advice on mergers and acquisition ( M& A), and more arcane - but widely used - derivative instruments. Rivals are left with the choice of following suit and losing
money, or sticking to their guns and hoping that the cut-price banks will eventually be forced out of the market. “The industry doesn't know which way is up from a point of view of competitive prices,” said one consultant at a large international
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accountancy firm. “It's not hard to figure out what the true cost of pricing is, but to ... unpick what different banks do, with different cost structures and different strategies to win market share or to reposition, is tough,” the consultant said.
The conundrum is a sign of how banks are grappling with changes imposed by regulators across the world on a scale not seen since after the Great Depression, which will take the industry many more years to adapt to. The 2008 crisis has already seen the demise of some of Wall Street's best- known firms, caused hundreds of thousands of jobs to be lost, and sparked the Occupy protest movement, a PR headache bankers are unlikely to shrug off any time soon.
And banks' profits will take another hit when most of the new rules drawn up after the crisis come into effect. Politicians have put a halt to some of their most lucrative activities, such as betting in capital markets with their own money and designing the complex debt instruments that turned toxic when the sub- prime crisis struck. They have also told them to set aside more capital for every dollar they lend, and to fund themselves in less risky ways, which will make banking a more expensive business - a cost the industry will inevitably pass on to clients. But so far, all it has done is cut bank profits to levels seen in staid and safe sectors such as basic resources and utilities, and that do not warrant the high risks in banking. If that doesn't change, investors will lose interest. Next year, investment banks are expected to show a paltry 6.8 percent return on equity ( ROE), an often- used gauge to measure how lucrative an investment is, according to a J. P. Morgan research note issued last week. They will need to get that number back up to 13 percent,
J.P. Morgan said. The long-term average in basic resources and utilities is around 8 percent and 12 percent respectively, according to a recent Citigroup note.
PRICES DROP
Almost five years after the start of the crisis, the banking industry is still bloated from its heady days before 2007, and banks are crowding each other out in capital markets, from where only a few have made a full-scale retreat.
It means professional clients can pick and choose the cheapest banks, and prices are going down - not up as they should if banks want to generate the higher profits needed to cope with the tougher new regulatory regimes. “There is overcapacity and people are competing on price to stay in business,” said one senior investment banker at a large institution, who declined to be identified so as not to disclose sensitive information to competitors.