McKinsey tells investment banks
to cut products and costs
The world’s largest investment banks should enact changes including
“ruthless prioritisation” of clients and combining fixed-income and
equity trading to avoid a sharp decline in profitability, according to
McKinsey & Co.
The companies should cut the number of products they offer and
push many clients to electronic platforms, New York-based McKinsey
said in an annual review of the investment banking and trading industry
released on 20 November 2013. As per the report, the firms must also
understand which clients are most profitable and restrict use of balance
sheet to those customers.
The report added that the return on equity (ROE) was 8% last year at the
13 largest investment banks, and may drop to 4% by 2019 without
remedies. ‘The extent of the challenges facing the current business
model suggest [that] there is a serious question over its viability,’ the
consultants wrote.
The 13 largest firms trailed performance of the broader investment
banking industry, which produced a 10% return on equity last year.
The largest firms could see ROE drop by half amid new leverage
restrictions, additional rules on trading and derivatives, and revenue
growth that will probably be just 1% annually over the next few
years, said the report.
The average large investment bank needs to cut costs by an additional
25%, and reduce risk-weighted assets by $60 billion while increasing
revenue by $1 billion to reach a 12% ROE. The way banks currently
operate, as many as 20% of clients are unprofitable, Kevin Buehler, a
Director at the consulting firm, said in an interview.
‘Banks can no longer afford to provide all products to all clients in all
geographies with a full-service approach,’ Buehler said.
Investment banks have exposed themselves to inefficiencies and
duplication by organising by asset class, separating traders who buy
and sell stocks from those who deal in commodities or currencies, the
report said. Instead, firms should organise into an “execution factory”
that handles most flow trading of standardised products, largely
through electronic platforms, the report proposed.
Banks should also have a separate division that designs and structures
unique hedges and other products for clients, and another group that
allocates all funding and customer financing, advised the reports.
The portion of global investment-banking and trading revenue that
comes from Asia, excluding Japan, will surpass that of North America
by 2017, McKinsey stated. In that year, Europe, Middle East and Africa
will contribute 33%, down from 39% in 2012, while Latin America will
climb to 4% from 3% in 2012.
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