CIB Review 1Q21

Capital Markets: Overview

For most banks in this report, 1Q21 was a quarter of multi-year records. The combined capital markets revenue exceeded $70bn, 34% ahead of 1Q20 driven, in particular, by ECM, DCM loans and equity derivatives. Costs also jumped, but by comparatively modest 22%, and with wide difference between US and European banks: in a repeat of 2H20, US banks maintained investment and increased bonus pools, while European banks took a much more cautious approach. As a result, European banks doubled their aggregate pre-tax profits – but also provoked staff discontent.

Across 14 banks, operating revenue/Front Office FTE jumped 70% y/y in Banking (mostly due to ECM) and 20% in Markets.

Driven by investors’ – justifiable – inflation concerns, US stock and bond futures became, in May, the most positively correlated since 1999 – thus eroding Treasuries’ role as a hedge against risk. Banks could be impacted in several ways, including: mark-to-market losses on govies as yields rise in response to inflationary risks; margin debt e.g. through lines of credit to asset allocators; and rising long-bond yields and borrowers defaults.

Commercial Banking & Treasury Services

Commercial banking revenue dipped 2% y/y in 1Q21. The demand for corporate lending remained soft after the drawdown and repayment of revolvers in 2020. In current markets, corporates have plenty of liquidity and, with it, plenty of choice between capital markets and loans.

The recovery in trade finance has not materialised yet: banks in this report saw their aggregate revenues declined 10% y/y, and pre-tax profits by 20%+. With economies (slowly) emerging from the Covid restrictions, a recovery is a fair bet, but that is contingent on successful vaccinations.

As banks’ release massive amounts previously tied up in reserves, CECL – first used by most banks in 1Q/2Q20 – is coming under scrutiny. Its critics point out that CECL stipulates that all future losses be recognised immediately – even though they may never become actual losses: for example, the US Government intervention protected banks from losses in 2020[1]. As a result, the main effect of CECL was to introduce huge volatility in banks’ earnings.

[1]  Also, in Mar-20 the US Senate gave banks additional time to fully implement CECL. By that time, however, most banks have already implemented the measure.

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