Twenty-seven billion dollars has gone missing on Wall Street.
For more than a decade, the world’s top investment banks practically minted money from the buying and selling of bonds, currencies and other complex securities. For many banks, the business became their lifeblood.
Now, a combination of tough regulations, new technologies, calm markets and changing customer behavior has left that type of trading a shadow of its former self — and much of Wall Street trying to redefine itself.
Five years ago, fixed-income trading — so called because its keystone product, bonds, typically provides a fixed payout — generated nearly $103 billion in income for the top 12 investment banks, according to Coalition, a London research firm.
By 2016, that had fallen to less than $76 billion — down $27 billion from the peak.
The accelerating losses are likely to be on display over the next week as the biggest U.S. banks report their annual results, starting with JPMorgan Chase on Friday. Some analysts predict that fixed-income revenue could fall another 20 percent this year. Some large banks, including Deutsche Bank, have already warned that the bond-trading bloodbath will get worse.
The trend is not only depriving giant investment banks of a staple income source. It is also altering the pecking order and business practices of Wall Street in profound ways.
Nowhere is the shift more pronounced, or more painful, than at Goldman Sachs Group, not long ago regarded as the unrivaled king of Wall Street. These days, the bank is fighting to maintain an edge that has been blunted by the diminution of its core trading business.
At its peak, Goldman’s fixed-income division churned out nearly $1 billion every two weeks. Last year, it took the bank an average of more than two months to earn that sum. The shift has left its once cocksure traders at times reeling. One day last spring, for example, they were caught by surprise when energy prices began to move sharply. After a few inquiries, the traders learned that Petróleos Mexicanos, the Mexican state energy company, known as Pemex, was buying instruments designed to protect against the possibility of falling oil prices.
Not only was Pemex not using Goldman to execute the trades, but Goldman hadn’t even been aware that the trades were happening. It was a rude awakening for Goldman, which previously had done tens of millions of dollars’ worth of work for the Mexican government, helping it protect itself against swings in the oil market, current and former employees with knowledge of the trades said.
Until a few years ago, traders at big banks spent much of their time wagering on the future direction of markets. Sometimes those trades were executed on behalf of clients; often, they were done using the banks’ own cash. Successful traders pocketed a percentage of their winnings, earning Hollywood-style glory in the financial media.
Trading jobs are much different now — less risky, less glamorous and, most of all, less lucrative.
New government rules require banks to hold thicker capital cushions to guard against losses, which makes trading less profitable by tying up more of a firm’s capital. Other regulations outlaw bank employees from trading with their companies’ cash.
That leaves traders spending much of their time looking for efficient ways to connect buyers with sellers.
“These banks are basically utilities now,” said Harley Bassman, who retired last year as a portfolio manager at the giant bond fund manager Pimco.
Even when it comes to serving clients, traditional investment banks are finding themselves at a disadvantage to upstarts that move faster at a lower price.
Jane Street is one such firm. Founded in 2000, it originally served as a behind-the-scenes broker, helping big banks make complex trades with one another, out of view of the investors and money managers who were the banks’ customers. These days, though, Jane Street offers the same services as the banks but with more power to automate trades.
Michael Bumkeun Cho, a portfolio manager at Samsung Asset Management in Seoul, South Korea, which manages $200 billion, specializes in the trading of exchange-traded funds, baskets of stocks or bonds that are easily traded. He said he had stopped relying exclusively on banks for his trading when he learned that Jane Street responded more quickly to his trading orders and charged lower fees.
“We understand the advantage of the independent market makers over the big investment banks,” Cho said. Citadel Securities, part of the Chicago-based hedge fund conglomerate run by Kenneth C. Griffin, is also muscling in on the banks’ traditional turf, using technology to undercut the banks on speed and price. One particular area that Citadel has targeted are interest rate swaps, an instrument that companies traditionally used to protect themselves against swings in interest rates.
“For many years — decades, actually — the big Wall Street firms had a stranglehold on those clients,” said Paul Hamill, global head of fixed-income, currencies and commodities at Citadel. But two years ago, he said, it became clear that “some banks were going to pull away from being all things to all clients.” Citadel saw an opportunity.
Compounding the pressure on banks, market conditions for the past year have been, well, boring.
Traders — and by extension their employers — thrive in volatile markets. Rapid fluctuations in prices tend to generate lots of buying and selling among clients.
But markets have been remarkably steady for more than a year. Nothing seems to shake them much anymore — not hostility with Russia, not President Donald Trump’s tweets, not saber-rattling on the Korean Peninsula.
Traders and sales representatives in banks’ fixed-income businesses are struggling to find ways to drum up business from clients. A rates salesman at a big U.S. bank who was not authorized to speak publicly said it had become hard to even engage clients in a substantive conversation about their expectations for future market prices. He described having to hunt for conversation topics during phone calls with them — low volatility, it seems, can make for awkward silences.
Amrit Shahani, the research director for Coalition, said he didn’t see anything coming that would improve conditions for the biggest banks.
“I think you can expect another slow year in 2018,” he said.
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