“If investment banking revenue trends do not improve in the second half, cost initiatives will move into focus,” according to Anke Reingen, a banking analyst at RBC Capital Markets in London. Meanwhile, Rich Handler, the chief executive officer of Jefferies Financial Group, is on alert for good bankers who might be let go by rivals that “made poor choices in good times,” he told staff members in a memo after the investment bank’s recent results. He also warned them, however, that any underperformers or those not fully committed to Jefferies were always at risk of dismissal.
If the fate of some bankers turns bleak, the industry has itself to blame for some of the pain to come. Equity capital markets will be vulnerable to cuts after generating their own brief bubble in so-called blank-check companies, or SPACs, last year. There was a boom in new listings generally in 2021, with global fees from initial public offerings nearly four times higher than the year before, which was an improvement from 2019, according to Dealogic data. The misguided SPAC boom brought in 26% of those fees in 2021 — and 50% of all IPO fees in the first quarter of 2021 — having accounted for only 5% to 6% in the years before the craze started to build.
Goldman Sachs Group Inc., Bank of America Corp. and others have already begun walking away from advising SPACs they brought to market after regulators announced a US crackdown. Issuance has collapsed to almost nothing this quarter. Fees from all equity deals are likely to be down more than 70% in the second quarter compared with those in the period a year earlier, according to Dealogic data. Total investment banking fees are likely down 50% year-over-year.
The other area to truly suffer has been high-risk junk-rated credit, particularly financing for private equity takeovers. Large banks are likely to report heavy losses on buyout loans that they have been unable to sell or have had to offload at hefty discounts. Only Bank of America has put any numbers on this, saying in June that it expected losses of $100 million to $150 million on so-called hung loan deals in the second quarter. The market deteriorated further before the end of the quarter, and the loss could be higher, according to JPMorgan Chase & Co. analysts. Barclays and Credit Suisse are also likely to suffer because they are more dependent on leveraged-finance revenue than many of their rivals and have been named on several hung deals. But most Wall Street banks are exposed, and total industry losses could exceed a billion dollars.
In spite of the drought for rainmakers, bank earnings overall should still be robust. Trading desks focused on macro products (interest rates, currencies and commodities) have been hopping. JPMorgan and Citigroup have forecast their revenue will be up 15% to 25% in the second quarter compared with the period a year earlier. In Europe, Deutsche Bank and Barclays should also benefit. In the US, traditional lending has also recovered strongly, consumers are spending and higher interest rates should boost income. The collapse in value of government bonds held by banks is likely to hurt, and many will want to put aside cash to cover bad loans if they expect economies to fall into recession. There have been minimal signs of consumer credit problems yet, however.
There is little reason to expect that markets will settle down quickly because there are few signs that any of the world’s geopolitical and economic battles are about to be resolved. For executives of big banks, trying to discern the number of people they need and what they should be doing looks harder than at any time since the 2008 financial crisis. After that, many banks took years to realize that the whole industry was in a secular decline, with revenue shrinking steadily from 2010 to 2019. The financial markets boom of 2020 and 2021, fueled by central banks, appeared to have drastically overturned that. Even now, Citigroup analysts still project total industry fees for the top 16 global banks will be higher this year and next than most of the decade before 2020.
That optimism could prove hard to maintain as the rest of this year unfolds. If many people increasingly struggle with the rising cost of living, and if unemployment starts to rise as well, then Wall Street leaders will soon be forced into making many more tough decisions of their own.
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This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Paul J. Davies is a Bloomberg Opinion columnist covering banking and finance. Previously, he was a reporter for the Wall Street Journal and the Financial Times.
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