SHOULD investment banks cut off the tail before it infects the body, or nurse it back to health? This is the conundrum confronting banks with fixed income divisions.
Once bread and butter for bank profits, the industry is now left fighting over stale crumbs. Barclays’s restructure of its investment bank has sparked fresh debate about whether fixed income, currencies and commodities (FICC) is on its deathbed because of structural changes caused by increased regulation, or merely sickly due to a cyclical decline.
Barclays’s Antony Jenkins told CNBC that “the combination of much greater capital allocation towards FICC activities and the state of the economy with the end of quantitative easing means that the outlook for FICC is quite challenged.” And even those selling fixed income to younger markets note the industry is not what it used to be.
Bryn Jones of Rathbone Brothers said the cost of holding capital is much higher for banks, so the inventory of bonds to trade is about 10 per cent of what it was in 2006. “Liquidity has collapsed, there are not as many bonds to access as before, so do you need as many specialists when the industry is just matching trades?“
Others describe the onslaught as both structural and cyclical. BlackRock’s Scott Thiel said Bank of England and Fed bond purchases represent a third of their individual markets, bonds which are unlikely to come bank into circulation. Deleveraging in Europe’s banking sector has also reduced senior bond issuances. UBS Investment Bank’s Larry Hatheway identified structural problems caused by increased regulation, but warned shrinking returns will further erode the appeal of bonds. “There are cyclical issues ahead when yields rise again. Today’s yields are unsustainable.”
But opportunists stand ready to scoop up market share in fixed income. “I think people have been slightly overplaying the demise of FICC... Transformation of illiquid credit into something that people can buy is going to be around for a long, long time,” said Jeremy Bennett of Nomura. And the Japanese bank faces competition. France’s Natixis also has big ambitions. “Fixed income has been difficult because the activities of clients have been declining compared to what it was for recent quarters. But we think it is not a long-term trend. Fixed income will pick up again. We are very devoted to developing our fixed-income business in Europe but also in the US, where we have invested significantly in our platform,” said Laurent Mignon, Natixis’s chief executive.
Few believe industry regulation will be reversed but, even with that challenge, some industry players intend to save fixed income in investment banks from oblivion.
Karen Tso is an anchor for Squawk Box Europe on CNBC. @cnbckaren