[PEN-L:30555] banks

["Ian Murray" <seamus2001@xxxxxxxxx>]

Through gritted teeth
Sep 25th 2002
>From The Economist Global Agenda

The weakness of stockmarkets and dearth of mergers and acquisitions continue
to spell hard times for investment banks. Unless markets and the banks'
advisory businesses pick up by the end of the year, many may be forced to
retrench yet again


FEW will pity them. Many may feel a thrill of Schadenfreude. Investment
banks, the companies which earn huge fees and pay fat salaries helping
companies take each other over and break each other up, are themselves
experiencing hard times. On both sides of the Atlantic, thousands of once
well-paid bankers have lost their jobs; many more fear they may do so.
Things could get worse before they get better. The boom of the late 1990s
has turned to bust with a vengeance. With stockmarkets slithering to their
lowest levels for years-on September 24th the FTSE 100 index and the Nasdaq
Composite both touched six-year lows-investment bankers are gritting their
teeth for yet more gloom to come.

The latest clutch of financial results shows that profits are becoming
harder to find even for the elite group of global investment banks. Lehman
Brothers said on Tuesday September 24th that the "challenging market
conditions" during the three months to the end of August had caused its net
income to drop by a third compared with the same period in 2001. Morgan
Stanley admitted last week that its return on equity had dropped to its
lowest since the bank was formed in 1997, and reported a 17% fall in profits
for the most recent quarter. J. P. Morgan Chase had an equally poor second
quarter and expects its results for the three months to the end of September
to be even worse.

Even Goldman Sachs, which reported net earnings of $522m for the third
quarter on the same day, up from $468m last year, was downbeat about the
prospects for the rest of the year. Business was unlikely to pick up, said
Henry Paulson, the company's chairman, until the economy improved and both
companies and investors regained their confidence. The improvement in
Goldman's earnings came mainly from its fixed income, currencies and
commodities business, which boosted revenues by 19% compared with the same
period last year.

More than two years of falling stockmarkets have not only taken money out of
investors' pockets; they have also made a big hole in bankers' profits-as
has the continued decline in the number of mergers and acquisitions. Figures
compiled by Dealogic, which tracks such things, show that during the first
six months of this year the value of deals done worldwide fell by 37% to
$645 billion. That means less work and fewer fees for the investment bankers
who advise on them. Worst hit was America, which accounted for 30% of the
total and where the value of mergers and acquisitions fell by more than half
(to $191 billion). Preliminary results for the first nine months of this
year show a similar pattern. Indeed, the value of deals done worldwide is
now nearly two-thirds below its peak during the boom days of 2000.

Not surprisingly, the banks that were carried away most by the euphoria of
those days are now finding life hardest. As in other businesses, senior
managers are paying the price for their over-zealous expansion. After
presiding over a net loss during the second quarter of this year, Lukas
Mühlemann, chairman and chief executive of Credit Suisse Group, (which
includes the investment bank Credit Suisse First Boston), announced on
September 19th that he would step down at the end of the year. Mr Mühlemann
spent a fortune buying up Winterthur, a big insurance group, and Donaldson,
Lufkin & Jenrette, an investment bank - both at or near the top of the
market. The deals have left Credit Suisse with little to show for its money.
The synergy that Mr Mühlemann sought between insurance and banking has
largely failed to materialise.

Also stepping down early is Leonhard Fischer, the head of Dresdner Bank's
investment banking and markets division and a director of Allianz, the
bank's parent. Dresdner said on September 25th that Mr Fischer would leave
his job at the end of October because of "differing opinions" about the
running of the corporates and markets division which includes Dresdner
Kleinwort Wasserstein. Dresdner is expected soon to shed more people in
order to cut costs.

Another boss coming under pressure is William Harrison, the chief executive
of J. P. Morgan Chase. Although the bank has done better than some this year
in winning mergers and acquisitions - it ranked second in Dealogic's league
table of worldwide deals during the first six months - it has struggled in
most other departments. By the end of September, J. P. Morgan Chase expects
to have to write off a further $1.4 billion-worth of loans, most of them to
failed or failing telecoms and cable companies. The bank's income from
equity trading during the third quarter is likely to be a fraction of the
$1.1 billion that it earned during the preceding one.


Worse, Standard & Poor's, a rating agency, has reduced J. P. Morgan Chase's
rating by a notch (to AA-). This will make it more expensive for the bank to
raise fresh capital and is bad news for an investment house that is the
largest participant in America's market for derivatives. The bank has also
been caught by the bankruptcy of Enron, the failed energy trader. At the
last count, J. P. Morgan Chase was suing for the repayment of just over $1
billion. Not surprisingly, the litany of woe has depressed the value of J.
P. Morgan's shares to the point where it is now worth less than many of its
smaller rivals.

As J. P. Morgan Chase shows, being big is no guarantee of success. And yet
in today's markets size can help. Thanks partly to the diversity of its
business, Citigroup, the world's largest financial-services group, has so
far managed to buck the tide. Its capital markets and banking division,
which includes Salomon Smith Barney, managed to push up its income by 4%
during the second quarter, mainly because of good profits from issuing and
trading in bonds.

Citigroup's difficulty has been with its regulator. Last week, it paid $215m
to settle claims that a company that it bought two years ago had duped
millions of people to take out overpriced mortgages and loans. The total
bill, including a deal to settle a related class-action suit, comes to
$240m. Like most of its rivals, Citigroup has come under the renewed
scrutiny of regulators in the wake of the collapse of Enron, WorldCom and
others. Indeed, the need to appear squeaky clean has prompted Sandy Weill,
Citigroup's chairman, to appoint a long-standing ally as the new head of the
company's global corporate and investment bank. It is perhaps a sign of the
times that Charles Prince, who has been with Citigroup or its predecessor
for more than 20 years, is trained as a lawyer.