If you work in investment banking, this won’t come as wonderful news or probably much of a surprise– but the whole nature of jobs in the industry is changing.
Two seismic changes are underway. First, there is cost. As banks’ investments in technology increases and as the cost of risk capital is recognized, the value added by individuals is being revealed as a lot less than it was thought to be. In risk-based businesses, like fixed income currencies and commodities (FICC), the rise in so-called ‘seat cost’ is throwing an unfavourable light on the age-old question of just how much value individuals add compared to the firm’s capital providers. But it isn’t just FICC, many a corporate finance banker gets her/his mandate today because big daddy is providing expensive risk capital to the deal.
Second, there is the long interest rate bear market to come. It is so easy to forget that interest rates have been on a long-term down trend for over 20 years. There are few FICC bankers employed today who have experience of rising rate environments - there really can’t be any under their mid-40s and that’s pretty much the entire industry. What will happen to investor demand with long-term sentiment for upward rate movements? The carry-trade gets much more difficult fretting about declining inventory values – that is if your firm will commit the capital. Corporate finance will also be a different business; increasing interest rates challenge valuations and deal timing.
Markets too have got used to central bankers keeping rates low, but this policy will come to an end and that point is getting closer - even if the word ‘tapering’ does describe how it is to be done. Investors will re-think their approach to bond investment. Inventory will need to be more intelligently hedged. If they want to make money in a rising rate environment, bankers are going to have to be a lot cleverer than they have been for the past 20 years. And this goes for the entire suite of FICC products – something we’ve seen already in the third quarter. And in that corporate finance space, challenging valuations, will be accompanying by increased pressure on sacred underwriting fees and the need to invite every other banker into a deal.
Perhaps it’s not that bad, but I see more and more unhappiness in the City as this transition occurs. This is often due to poor expectations; particularly expectations of past glory days returning in terms of activity and pay. If you work in banking, it’s time to re-focus, re-train, and re-think your career. You should also note that your employer is continuing to hire new recruits with different expectations.
Personally, I remain very positive about the opportunities and value added of investment banking – shall I say the new investment banking. The industry is re-configuring itself with more focus and differentiated strategies. But for some, there seems to still be a holding on to some of the old ways. Over the past few decades, it wasn’t the most brilliant individuals who made the most money – it was usually the people who took the biggest risks. They were very helped by falling rates and poor assessments of the costs of risk. Among the seven figure bankers I met over the last 30 years were many super smart people, but a much greater number might have been challenged by basic financial concepts. Lucky timing and risk taking, committing long hours, and making sure to be part of the loyal team all helped the latter group. That time has past.
Better appreciation of risk, rising costs, and the coming bear market in rates won’t help those without talent and a sense of undue expectation. For many, it will be time to change expectations permanently.
Peter Hahn is a Senior Fellow at Cass Business School (and a former banker).