Jamie Dimon clearly likes a challenge.
You might think that of all the arguments against proposed new US capital rules, their impact on Wall Street banks’ trading profits would have the least appeal. But that does not deter the JPMorgan Chase boss.
In his latest letter to shareholders, he warns of dire consequences if US bank regulators press ahead with their proposed implementation of Basel III. The new rules could undermine market stability, increase the cost of banking services and push more activity into the shadows, he says.
What he does not emphasise is that they could also hit returns from one of the Wall Street banks’ biggest money spinners.
His broadside also underlines how trading has become — in some ways — a more attractive business since the financial crisis. Although regulators greatly increased lenders’ capital requirements in the wake of the crisis, the big banks have continued to make good returns from market-making in shares, bonds and currencies. And those returns are more stable than widely assumed, not least by investors.
Dimon points out that over the past decade, his firm’s trading business has never had a quarterly loss and has lost money on only 30 trading days, with an average loss of $90m.
In March 2020, when US shares fell 16% and bond spreads ballooned, JPMorgan’s market-making activities lost money on only two days and had revenue of $2.5bn in the month.
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Admittedly, not all banks do as well as JPMorgan. Since the financial crisis, the biggest banks have steadily increased market share compared with smaller firms as the economies of scale have risen. At the same time, the banks as a whole have lost share to non-banks such as Jane Street and Citadel Securities, which do not work under the same capital rules.
In his letter, Dimon highlights the level of financial commitment required. JPMorgan spends $7bn a year on support expenses, $2bn a year on technology and $700m a year on research coverage. That generates trading revenue of around $30bn a year.
But he warns that the proposed new rules could raise capital requirements for trading at the big banks by 50%.
In European trading rooms, there have been some hopes that the new rules may finally restrain the US banks, which have been steadily increasing their share of the global trading cake. But the lobbying by the likes of Dimon seems to be paying off. In March, Federal Reserve chair Jerome Powell signalled to Congress that the proposals would be significantly watered down. Some bankers think that the changes could halve the impact on the big US banks compared with the original proposals.
In terms of the relative boost to European banks, analysts at Keefe, Bruyette & Woods reckon the new rules are “unlikely to materially alter the market share dynamics given the ongoing capital constraints in Europe”.
Nonetheless, the immediate outlook for trading in Europe is encouraging, according to a recent analysis by KBW. The report predicts that trading revenues will edge up 1% in 2024 and much the same in 2025. That might look worse than dull. But it is almost 40% higher than the average of the two years running up to the pandemic.
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After the surge in 2020, as central banks flooded the market with liquidity, trading revenues were widely expected to subside. But they have remained elevated thanks to volatility caused by geopolitical risks, huge swings in energy and commodity prices and the hikes in interest rates as inflation took off. KBW says there is a strong case that the much higher level of trading revenues could be the new normal for some time.
For a start, the value of trading assets is up 10% on pre-pandemic, which should imply higher trading revenues. Overall volatility levels are also high which in turn leads to increased trading as clients reposition.
In addition, banks, particularly Goldman Sachs and Barclays, have increased their equities and bond trading revenues by providing more financing to their investor clients for hedging and arbitrage.
The fallout from the takeover of Credit Suisse has given rivals the opportunity to pick up business from UBS, which is expected to hang on to only a tiny fraction of Credit Suisse’s business — lifting its total trading revenues by just 5% in 2024 according to KBW forecasts.
This will offset some of the reduction in market share in trading that UBS has seen over the past five years. Among the leading European banks, the other significant loser has been Societe Generale, while the biggest gainer has been BNP Paribas. Boosted by acquisitions, BNP Paribas’s share of the top 10 global banks’ trading revenues has risen from 5.2% to 6.0% in the five years to 2023 — level with Deutsche Bank and just behind Barclays at 6.4%.
Of the Wall Street banks, the biggest gainer has been Goldman Sachs, which has seen its share rise from 13.4% to 16.4%. Meanwhile, both Morgan Stanley and Citigroup have slipped back. JPMorgan remains comfortably on top, with 19.3% in 2023.
One of the big uncertainties for all trading businesses is the outlook for interest rates. Higher interest rates are generally good for trading profits and, based on admittedly limited past experience, it seems activity picks up as the rate cycle starts to turn. So that bodes well for the next year or so.
The bad news is that a big and sustained fall in interest rates could take a lot of the steam out of the business. If a large part of that 40% uplift in revenues since the pandemic evaporated, it would be very painful for the banks and for their employees.
To contact the author of this story with feedback or news, email David Wighton
