Bloomberg News

Wall Street Trading Desks Defying Second-Quarter Curse

June 19, 2013

Wall Street banks (JPM:US), buoyed by record stock-market prices and high-yield bond issuance, probably will report a jump in second-quarter trading and investment-banking revenue from the same period a year ago.

Trading revenue at the five largest firms may rise 13 percent from a year earlier and investment-banking revenue could climb 17 percent, Matt Burnell, a Wells Fargo & Co. analyst, wrote in a research note this month. While that represents a 16 percent fall from the first three months, it would be the smallest percentage drop from the first quarter since 2009.

The improvement is helping propel bank stocks to their best first half in 16 years as Wall Street looks for a recovery in trading, underwriting and advisory work. Each of the past three years featured a second-quarter disruption from global events such as the European debt crisis that presaged a weaker second half after a promising start.

“The lack of a major negative event is definitely helpful, but on top of that there has been more optimism in April and May,” said Richard Staite, an analyst in London with Atlantic Equities LLP. “A lot of analysts will look to revise their second-quarter numbers as we approach the quarter-end, and I think those will be positive revisions.”

Combined trading and investment-banking revenue at the five biggest Wall Street banks -- JPMorgan Chase & Co. (JPM:US), Goldman Sachs Group Inc., Citigroup Inc. (C:US), Bank of America Corp. (BAC:US) and Morgan Stanley (MS:US) -- may top $25 billion in the quarter, based on Burnell’s estimates. That would push the first-half total higher than in 2012. The five firms generated about $30.6 billion from those businesses in the first three months, excluding accounting charges, down about 8 percent from a year earlier.

Quarterly Peak

Revenue from trading typically peaks in the first quarter, in part because companies issue more debt at the beginning of the year, stoking banks’ fixed-income business. Matt O’Connor, a Deutsche Bank AG analyst, estimates trading and banking revenue will drop 10 percent to 15 percent from the first quarter, less than the normal 20 percent decline.

The outlook has helped boost bank stocks, which are headed to their best first half since 1997. The S&P 500 Financials Index of 82 companies has risen 8.8 percent this quarter after climbing 11 percent in the first three months. Morgan Stanley has jumped (MS:US) 20 percent this quarter, while JPMorgan, Citigroup and Goldman Sachs are each up more than 11 percent. Bank of America shares have gained about 9 percent.

Dimon Forecast

Michael Cavanagh, co-head of JPMorgan’s corporate and investment bank, said May 14 that trading revenue was about 10 percent to 15 percent greater at that point in the quarter than a year earlier. Chief Executive Officer Jamie Dimon, 57, said last week that JPMorgan, which has more trading revenue than any other bank, probably would do even better than that.

Spokesmen for New York-based banks JPMorgan, Citigroup, Goldman Sachs and Morgan Stanley declined to comment, as did a spokesman for Bank of America in Charlotte, North Carolina.

Last year, deal volume and equity and credit markets fell on concern that Greece would abandon the euro and the region’s sovereign-debt crisis would spread to nations including Spain.

The same pattern occurred the two previous years. In 2010, Greece was cut to junk by Standard & Poor’s in April and agreed to a 110 billion-euro ($147 billion) bailout in May. The following year, the yield on Greece’s 2-year bond topped 30 percent for the first time in June as George Papandreou, then Greece’s prime minister, failed to form a unity government.

High-Yield Debt

This year, European sovereign bonds rallied to their highest level in more than three years after leaders agreed to bail out Cyprus in March. The Standard & Poor’s 500 Index (SPX) rose to a record on May 22, and daily trading volume of high-yield bonds jumped 28 percent from a year ago, to the highest level since the financial crisis, according to Trace, the bond-price reporting system of the Financial Industry Regulatory Authority.

Banks had underwritten $116 billion of high-yield debt in the second quarter through yesterday, bringing the year-to-date total to $268.7 billion, according to data compiled by Bloomberg. That’s up almost 50 percent from a year earlier and the highest first-half total on record.

“Last year was somewhat of a more hindered quarter in terms of struggles in Europe and a real lack of volume,” Citigroup CEO Michael Corbat, 53, said at an investor conference in New York on May 29. “Clearly, what you’ll see is the cyclicality from the second quarter being less than the first quarter, but I don’t think you’ll see that big drop-off or the same kind of drop-off that we saw last year.”

Abenomics Volatility

While underwriting and trading has improved in Europe, economies in other parts of the world have threatened to derail trading results in recent weeks.

Volatility on the Nikkei 225 Index of Japanese stocks almost doubled from May 1 to June 13 as investors speculated about whether Bank of Japan Governor Haruhiko Kuroda will try to escalate Prime Minister Shinzo Abe’s stimulus program known as Abenomics. Emerging-market equities dropped 10 percent from May 22 to June 13, as manufacturing in China contracted and Turkey became embroiled in protests over an urban development plan.

“The last few weeks particularly have thrown a bit of turmoil into the markets,” Morgan Stanley CEO James Gorman, 54, said at an investor conference in New York last week. “The wild card none of us really anticipated dealing with was Kuroda-san and Abenomics and the impact, the violent swings up and down that’s had on the global markets.”

‘Material Improvement’

Still, Gorman said he expects Morgan Stanley to post a “material improvement” from the second quarter of last year, when the bank trailed each of its U.S. competitors in trading revenue by more than $1 billion. The company has said the underperformance was caused in part by clients halting some trading amid a Moody’s Investors Service review of its credit rating (MS:US) that quarter, which resulted in a downgrade.

Trading volume, an indicator of performance, may not correlate directly with revenue because banks also can profit from changes in the value of the securities they hold and transaction fees that may not be related to volume.

Rising interest rates could lead to losses in securities that banks hold as trading inventory. The yield on 10-year Treasury bonds has jumped as investors speculate about when Federal Reserve Chairman Ben S. Bernanke will taper the central bank’s $85 billion in monthly bond purchases. Bernanke may address that speculation at a press conference today after the Federal Open Market Committee concludes a two-day meeting and releases a policy statement.

The yield on 10-year Treasury bonds jumped to 2.19 percent as of June 18 from 1.85 percent on March 31. The effective yield on U.S. junk bonds climbed to 6.28 percent from 5.91 percent at the end of the first quarter.

Jefferies Results

Jefferies Group LLC, the investment bank owned by Leucadia National Corp. (LUK:US), cited uncertainty about the direction of the Fed’s bond-buying program when it posted second-quarter results yesterday. Fixed-income trading revenue for the bank’s quarter, which ended on May 31, dropped 27 percent from a year earlier as the New York-based firm saw a “significant slowdown” in April and better results in May. Jefferies had about one-ninth the trading and investment-banking revenue of JPMorgan last year.

“The fixed-income trading environment can best be characterized as ‘tepid and cautious,’” CEO Richard Handler, 52, said in a statement, which also noted that investment-banking revenue has improved since the end of May. “Momentum appears to be building for our third and fourth quarters, as our backlog is strong and improving.”

‘Urban Legend’

Most banks have prepared for higher rates and probably avoided significant writedowns, Atlantic Equities’ Staite said.

“They’ve been avoiding holding too much inventory,” he said. “There might be one or two banks that might have suffered if they were sitting on the wrong side of these moves, but in general they have probably done quite a good job at managing through it.”

Goldman Sachs President Gary Cohn rejected the notion that rising rates will make it more difficult for banks to generate fixed-income trading revenue.

“There’s this old historic urban legend that you could only make money in the fixed-income business when rates are going down,” Cohn said at an investor conference in New York on May 30. “We tend as a market-maker to run a relatively neutral book on rates.”

Anshu Jain, co-CEO of Frankfurt-based Deutsche Bank, said at an investor conference in New York on June 4 that his bank’s fixed-income trading desk would benefit from “a steeper curve, higher volatility, bigger volumes.”

Trading Volume

Rising long-term interest rates probably won’t stem the multiyear decline in equity-trading volume, consultant Greenwich Associates said in a June 17 report. Average daily equity-trading volume on the largest U.S. exchanges is down 7 percent from a year earlier.

“Brokers have started planning for a new market normal in which trading volumes, commission payments and brokerage revenues hover close to today’s depressed levels,” Greenwich Associates said in a statement. “They are scaling back their business structures to align with a U.S. equity market of about $9 billion to $10 billion in annual institutional commissions, as opposed to the $13.9 billion peak reached in 2009.”

Still, daily average trading volume in global equities has climbed 27 percent this quarter as of June 17 compared with a year earlier, driven by growth in Asian markets, according to Bloomberg Industries.

‘Punch Bowl’

Equity markets also have been driven higher as investors placed more money into equity funds. New combined flows into domestic and international stock funds were positive in each of the first five months this year, after outflows in 11 months in 2012, according to data from the Washington-based Investment Company Institute. That pushed the S&P 500 to a record and the MSCI World Index to its highest since 2008.

Global equity issuance could be up 45 percent from the second quarter of 2011 and down 3 percent from the first three months, according to data compiled by Bloomberg. European equity-underwriting volume is almost triple that of a year ago, according to Bloomberg Industries. Issuance of U.S. bonds may jump 34 percent from last year’s second quarter. Announced mergers and acquisitions are on track to drop 13 percent from a year earlier.

“Confidence is high right now, but that could turn at any minute,” David Trone, an analyst at JMP Securities LLC in New York said in a Bloomberg Television interview last month. “This market rally, I don’t get it. I don’t get it personally, I don’t get it professionally, but hey, who wants to take the punch bowl away from the party?”

To contact the reporter on this story: Michael J. Moore in New York at mmoore55@bloomberg.net

To contact the editor responsible for this story: David Scheer at dscheer@bloomberg.net


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