Managing Director & Senior Partner
The capital markets and investment banking (CMIB) industry is in the midst of a multiyear transformation that necessitates tough strategic choices. In the fixed-income, commodities, and currencies (FICC) arena, for example, some players are pulling out of capital-intensive businesses and radically scaling back large parts of their fixed-income units. Other institutions are leaving the commodities space, providing opportunities for competitors—either existing or new—to gain share. In cash equity brokerage, some European players are either restructuring or exiting altogether. And the industry has still not recovered to its peak precrisis performance levels.
Indeed, after-tax ROE levels of 15 to 20 percent appear to be a thing of the past for most players. The industry average was in the 10 to 13 percent range at the end of 2012, and we estimate that a further 3 percentage points of negative impact from regulation has yet to be absorbed, which will push current ROE levels down to the 7 to 10 percent range.
This situation poses a fundamental question, one that is currently being debated in the market: with other financial-services sectors yielding higher ROE, is the CMIB industry likely to find enough support from impatient investors and boards of directors to survive in the long term? The answer is yes, but with caveats.
Overall, we believe that the central role of CMIB institutions in the global economy remains intact. Corporations and governments still need to raise capital for investments, investors still need to find adequate returns, and risk still needs to be assessed, intermediated, and transformed. Organizations will continue to need the strategic and financial advice that CMIB players, given their knowledge of clients and markets, are best positioned to offer. Providing such services may have become more expensive for the CMIB industry, but the structural need for these services will not abate. We also believe that some CMIB players, provided they make the necessary tough choices, can raise their ROE to a sustainable level of 12 percent, the minimum that investors will require.
Yet numerous pressures exist. Some issuers and investors, for example, are attempting to create a marketplace without intermediation. Certain less-regulated entities such as hedge funds and physical-commodity traders are venturing into the traditional CMIB space. On the resource side, the industry is experiencing cost pressures as well as capital constraints. As a result of these and other dynamics, although the market for CMIB services will remain vital, the value that banks capture will continue to shrink. Some players may be forced to exit the industry entirely, and many more will leave certain asset classes or gradually reduce their exposure and investments in unprofitable areas. In brief, only the fittest will survive.
In this, our second annual report on the global CMIB industry, we explore key market developments and their impact on CMIB players, address the different choices that banks face today as seen through both a “client” and a “product” lens, and propose six business models that we perceive as the most advantageous. In their purest form, these models have the potential to generate ROE well above the 12 percent level that many players will struggle to achieve. But we emphasize that significantly higher ROE levels, those that are closer to the performance of other sectors of the financial services industry, will be attainable only by relatively few institutions within each of the six business models.