Capital Markets: Overview
The banks in this note reported US$169bn of operating revenue in FY17, 3% below FY16, and US$35bn in 4Q17, -10% y/y. Primary revenue grew, but Equities slipped and – crucially – FY17 FICC dropped 10% y/y. A fall in per-head FICC productivity led to renewed ‘rightsizing’ initiatives.
Banks (again) matched their costs to revenue: the average cost/income for banks in this report declined, from 82% in FY16 to 79% in FY17, driven by improvement in FICC and Banking.
Opinions on the impact of MiFID 2 vary widely; we expect it will be significant. For example, when TRACE reporting was introduced in the US, the added transparency on volumes traded (and hence flows) let to a c.30% reduction in bid-offer (or equivalent) margins. A similar phenomenon may be seen in MiFID 2, as it applies to most of the high-volume fixed income instruments. The exact margin reduction is likely to be smaller, as increased use of electronic markets means that the European markets are already more transparent than the US markets were at the time TRACE reports were introduced; still, we would not be surprised to see margin compression of 10-15% with a commensurate impact on revenues.
In the US, commercial lending remained steady. While rising interest rates favoured some banks, others found their financing margins unchanged relative to 4Q17. European volumes declined – slightly in continental Europe and more sharply in the UK. In general, banks saw net interest margins tightening on their existing loan portfolio, but margins on new loans were healthier.
Driven by strong activity in the US and Europe, 4Q17 payments volumes grew by approximately 10% compared to prior-year period. Trade finance activity steadied, with a year-on-year decline of almost imperceptible 0.5%.
Wealth management revenues of the banks included in this report reached US$66bn in FY17, +8% y/y, with corresponding increase in productivity. Pre-tax profits jumped 16% y/y, despite a sizeable investment in front- and middle-office staff and (selective) investment in systems.
MiFID 2 is likely to accelerate the shift from advisory to discretionary activities (here, we aggregate fees from both within ‘investment management’). With questionable wisdom, the impractically detailed MiFID 2 stipulates that firms must show how each advice that is given meets the client’s objectives and circumstances – even if a transaction was discussed with the client beforehand. A resultant increase in provider’s cost may make advisory even more niche than it already is; several smaller firms we follow have already ceased marketing advisory service – even if they still offer it.
Other key challenges for the industry in 2018 and beyond include: a continued shift to tech solutions/AI (including cooperation with specialist external operators), a more transparent pricing, emphasising performance over a simple share-of-AuM, especially in the UHNW segment.