Nov 15 Bernstein Research painted a grim picture of the future profitability of fixed income, currency and commodity trading and said the industry was likely to shrink and consolidate further over the next five years as it faces more regulatory requirements.
Regulators around the world are now demanding investment banks hold a capital cushion against a wider range of risky assets than before, hurting trading margins and profits.
Only firms with proper scale, technology and trading discipline will be able to earn their cost of capital, but will still not have robust returns on equity, Bernstein said on Thursday.
The big investment banks can no longer leverage large amounts of capital to earn their rates of return, and would have to reduce costs and modify balance sheets to boost profit margins at their trading units, the brokerage said in a note to clients.
Bernstein said it expected headcount and compensation to fall, with firms paying out just 40 percent of their revenue in salaries, down from 50 percent currently.
Bernstein said its analysis suggested that firms will need to trim risk-weighted assets on their trading books by 33 percent in the United States and 25 percent in the European Union.
UBS AG is planning to cut most of its trading unit, while Credit Suisse Group AG, Goldman Sachs Group Inc, Bank of America Corp and Morgan Stanley have already taken steps to shrink trading expenses and automate their business models.
Firms that can earn a higher revenue yield on trading assets are immersed in a game of attrition, Bernstein said, and those able wait out the challenges will benefit from lower competition and improved pricing.
For a BREAKINGVIEWS column on the challenges facing trading firms, click