Don’t blame Brexit for the malaise in investment banking

Investment bankers are the rock stars of finance. One moment they are at the top of the charts selling – or streaming as its now known – their records to millions of adoring and fawning fans. The next moment they are to be found driving taxis or in yoga retreats, or sometimes in rehab, being blamed for their bad behaviour when once they were celebrated.

Right now, investment bankers are singing the wrong songs in stock markets which are also out of tune. The mood is particularly gloomy in the equity capital markets where worries over the slow-down in the global economy, the downturn in the car industry, President Trump’s trade war with China as well as the People’s Republic’s own slowing growth, and you have the perfect storm to unsettle corporate and investor confidence.

Throw in Brexit for good measure and you have the perfect excuse for stasis.

And when confidence is bad, companies stick with what they are doing. They are less likely raise debt or equity for expansion, they don’t float as easily on the public markets and they are less likely to gobble each other up so M&A activity falls.

Put all these gloomy factors together and you see why some of the world’s biggest investment banks are preparing to sack hundreds of their investment bankers. Europe has been worst hit, with several of the biggest US banks looking to cut down staff across their European operations, mainly those based in their London offices.

The trigger for the latest cutbacks – and the freeze on hiring – was the dire trading in the first quarter of this year, one of the worst for years. The big Wall Street banks all reported a 12% fall in trading revenues.

Worst hit were their European operations. According to Dealogic, the data provider, European investment banks accounted for just 25% of the global investment-banking fee pool in the first quarter of the year. That was the lowest proportion in nearly 20 years.

Uncertainties over Brexit will be used by many as the easy culprit to blame for the cuts. But that’s not only simplistic but plain wrong. The bigger reason is the downturn in deals across Europe, negative interest rates, the slowdown in industrial output in Germany, political problems in France while Italy is still in recession.

The Financial News reports that Goldman Sachs, JPMorgan and Citigroup are among the many banks that have been reducing staff, and plan to make further cuts, across their European operations. You know that things are rock-bottom when the banks call in the heavies, the consultants at McKinsey and Boston Consulting Group.

You can see why – Dealogic has the numbers to explain. The first quarter of 2019 saw the lowest equity capital market volume across Europe and the Middle East since 2009 at $27bn, and the lowest number of transactions since 2016.

In terms of IPOs, the numbers fell by 97% to $475m in proceeds, and by 65% to 22 IPOs compared to the same time last year, that’s a ten year low.

Several companies, including German car-maker, Volkswagen, postponed the flotation of its truck business, Traton SE, because of the soft market conditions and lack of investor appetite.

In the UK, business had a mixed record. Although the London markets saw more flotations than any other European centre, proceeds and activity were still at its lowest for seven years. Crossing fingers, Dealogic reports that many companies expect to come back later in the year to raise new money when they hope sentiment is looking stronger. Or so they hope.

But the outlook does not look good, particularly for the European investment banks such as Deutsche Bank, Barclays, UBS, BNP and Société Générale which have all lost market share to the Wall Street goliaths. They are all cutting staff.

By far the worst hit are Deutsche and Barclays, the only two of Europe’s investment banks which can claim to be serious competitors to US rivals. Indeed, problems at Deutsche, which has just dropped its merger plans with Commerzbank, look as though they could deteriorate still further. Once again, Deutsche is in danger of failing U.S. stress tests for its Wall Street operations. Deutsche failed the capital adequacy tests last year, and if the Federal Reserve fails the bank again when it reports in July, this would be a severe jolt to its credibility.

If the Fed forces Deutsche to make further cut backs or raise more capital, that in turn would hurt its ability to earn. The bank’s shares have been in free fall over the last few years, collapsing to E7 each, valuing the bank at only E15bn today compared to E112bn in 2007.

If squaring up to the Fed is not bad enough, Deutsche is also being sued by President Trump to block a subpoena from the House Intelligence and Financial Services Committees for documents about his finances.

Deutsche was Trump’s main lender for many years, and bank officials have been working with government investigators probing his business affairs.

Barclays is also having a tough time. The recent first-quarter results saw revenues and profits down in investment banking, a downturn which could not have come at a worse time for the bank.

Barclays is at war with the US corporate raider, Edward Bramson, who wants the bank to hack back its investment banking arm, claiming that it is a drain on the business and holds down returns.

The showdown comes today at the Barclays annual meeting when investors will decide whether Bramson should be elected to the board as he has suggested. Bramson is right on one issue, that the problems facing Deutsche and Barclays are similar, and that both need to make deep cutbacks if they are to improve return on capital. Having him on board would certainly shake things up.

They need shaking too. There’s a lot of macho pride and ego involved in investment banking; all the banks want to sit at the top table advising the world’s top corporates on their ambitious plans. But it’s such a cyclical, volatile business that running operations when times are bad is inevitably costly. When the markets are singing again, they make fabulous money. Ironically, one of the reasons that it costs so much to cutback is that bankers are today paid too much in salary and not enough in bonuses; the reverse of how the business used to be run.

Sacking them costs a fortune. And hiring them again when times are good becomes more expensive.

And those investment bankers losing their jobs? They get highly paid for high risk, and know the score. Most will have made enough money to survive until the next uptick. Others will move to Singapore or brush up on their Cantonese. Others will drive taxis where they might write some new hits to stage a come-back.