Goldman Sachs & JPMorgan suggest a group of dangerous people will be paid well this year
It's US bank results day. As predicted, things in the third quarter were not as good as in the second quarter.
The slowdown is most apparent in fixed income sales and trading. At JPMorgan, fixed income sales and trading revenues were down 4% year-on-year thanks to lower revenues in commodities, rates, credit and public finance. At Goldman Sachs, fixed income sales and trading revenues were flat year-on-year by virtue of "significantly higher" revenues in commodities and FX trading, even while revenues from mortgage, credit trading and rates trading fell.
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As bonus allocation decisions loom into view, bonuses will therefore need some careful thought. This applies equally in investment banking, where revenues are still growing, but where Goldman today said the pipeline of coming deals is less full than it was in Q2 or at the end of last year.
At both Goldman and JPMorgan, though, one group of people seem assured of comparatively generous bonuses this year: prime brokers.
As the chart below shows, equities sales and trading businesses at both banks had an exceptional third quarter, with Goldman in particular appearing to gain market share. Both banks attributed this in no small part to the effort of their prime broking teams.
Goldman, for example, said revenues were “driven by significantly higher net revenues in prime financing and portfolio financing,” and by strong revenue growth in equity derivatives intermediation. JPMorgan said revenues were driven by strong performance in prime and equity derivatives. Even at Citi, where equity derivatives sales and trading revenues inexplicably fell in Q3, prime balances were "up over 40%."
This is good news if you work in prime services, facilitating and financing trades with hedge funds and electronic trading firms, but as is increasingly being observed, the growth in banks' prime broking businesses carries risks, too.
The Financial Times said last week that prime services revenues are expected to hit 38% of banks' equities sales and trading revenues this year and to reach nearly $48bn across the industry. Working with a single hedge fund can bring in a steady stream of $200m revenues a year (after costs) and top hedge funds are being offered 11x leverage, or twice that when derivatives are included.
If you have relationships with the top hedge funds and top trading firms, these are clearly lucrative times. However, the July losses of both Jane Street and Situational Awareness were reminders that lucrative times come with a risk. Neither of these losses appears to have been felt by banks' prime broking businesses, whose use of dynamic margining seems to have come a long way since the dark days of Archegos and Credit Suisse.
Nonetheless, as prime revenues grow and prime services professionals prepare for a fine bonus season, regulators are already paying attention. The FT quoted one who said: “It [prime] has just grown and grown and grown.” Questions are already being asked about whether prime businesses are too big. Giant bonuses won't help that.
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