Bloomberg/New York


A US flag flies behind a Wall Street sign outside of the New York Stock Exchange in New York. US corporations have put off capital raises and investors sold riskier assets on concern that the economy is slowing and Europe’s debt crisis would spread
The biggest Wall Street firms posted their worst quarter in both trading and investment banking since the depths of the financial crisis as they face questions about the future of their business.
JPMorgan Chase & Co, Bank of America Corp, Citigroup Inc, Goldman Sachs Group Inc and Morgan Stanley posted $13.5bn in trading revenue minus accounting gains for the third quarter, down 35% from a year earlier. Investment- banking revenue plunged 41% from the second quarter to $4.47bn.
Bank of America posted a roughly 90% drop in fixed- income trading revenue and Goldman Sachs had its lowest debt underwriting quarter since 2003. Corporations put off capital raises and investors sold riskier assets on concern that the US economy was slowing and Europe’s debt crisis would spread.
“The micro has caught up with the macro, and the strains of the financial system have hit these companies,” Charles Peabody, an analyst at Portales Partners LLC in New York, said on Wednesday on Bloomberg Television’s “Inside Track.” “The question is, does that continue going forward?”
The five banks’ combined trading revenue so far this year, excluding debt valuation adjustments, or DVA, is down 16% from the same period last year. DVA are accounting gains taken when the value of a firm’s own debt declines, and losses taken when it rises.
The Standard & Poor’s 500 Index dropped 14% during the period, the worst decline since the fourth quarter of 2008. The Chicago Board Options Exchange Volatility Index, or VIX, which measures the cost of buying insurance against drops in the S&P 500, surged 160% to its highest quarterly reading since the first three months of 2009.
The Markit CDX North America Investment Grade Index, which measures the price of buying derivatives to protect against a default on the corporate debt of 125 borrowers, climbed the most in the quarter since 2008.
“Whether it was a volatile and unpredictable market that made new equity issuances very difficult to execute, or our asset-management clients having much less conviction on investment decisions, the broader environment served as a significant headwind to clients moving forward with their business objectives,” Goldman Sachs Chief Financial Officer David Viniar said on a conference call this week.
Firms are also grappling with questions about the potential impact of the Volcker rule, which seeks to ban proprietary trading and limit hedge-fund and private-equity investments at deposit-taking banks. Regulators are seeking feedback from banks after releasing a draft of the proposal.
Wall Street’s fixed-income desks could suffer a 25% decline in revenue under one proposal contained within the Volcker rule draft that may target so-called flow trading, Brad Hintz, an analyst at Sanford C. Bernstein & Co, wrote in a note to investors earlier this month.
Banks shut down stand-alone proprietary trading desks in anticipation of the rule, which has already affected trading. Citigroup said its 73% year-over-year decline in equities-trading revenue, excluding DVA, was driven by losses from a prop-trading group it is closing.
Bank of America attributed part of its fixed-income revenue drop to the winding down of its prop business, which contributed $434mn in the first half and zero in the third quarter.
Morgan Stanley is “constantly reassessing” whether the current environment represents a cyclical or secular change, chief executive officer James Gorman said on Wednesday on a conference call.
“Over the next several months, it will become clearer which of the businesses that use a lot of balance sheet and take on a lot of risk can be expected to generate the kind of return that shareholders need,” Gorman said in a Bloomberg Television interview.
The 10 largest global investment banks, which include the five US firms, are likely to trim their headcount of revenue producers by 5% in this year’s second half, according to an August report from industry consultant Coalition Ltd.
Peabody and Shannon Stemm at Edward Jones & Co expect capital markets revenue to pick up from the current levels. The impact of the economic environment may lessen once investors get more clarity from European leaders over their response to the region’s credit crisis, Stemm said. “It’s our view it does eventually lift and we move back into an environment whereby the investment-banking revenues recover from these levels,” Stemm said.
Factory, jobs data offer hope
Factory activity in the US Mid-Atlantic region rebounded in October and the number of Americans claiming new jobless benefits fell last week in fresh signs that the economy was likely to duck a new recession.
Optimism over the economy was tempered, however, by other data on Thursday showing a drop in sales of previously owned homes and only a small rise in a gauge of future growth.
“The numbers we have seen today provide some hints that the domestic economy is doing a little bit better, even with the challenges that are unfolding in Europe,” said Michael Strauss, chief economist at Commonfund in Wilton, Connecticut.
Initial claims for state unemployment benefits slipped 6,000 to 403,000 last week, the Labor Department said. A four-week average, which smooths out weekly volatility to give a better view of trends, hit its lowest level since April.
Separately, the Philadelphia Federal Reserve Bank’s business activity index rebounded to 8.7 in October, the highest reading in six months, from minus 17.5 in September. A reading above zero indicates factory activity is expanding in the region, which covers eastern Pennsylvania, southern New Jersey and Delaware.
Fears had been mounting that the sickly US economy was heading back toward recession after growth wobbled in the first half of the year and after consumer confidence plunged in August amid signs both the US and Europe were having trouble coming to terms with their huge debts.
But the recent stream of data, including figures on retail sales and trade, suggest output sped up in the third quarter.
Analysts estimate US gross domestic product grew at an annual pace of anywhere between 2.3 and 2.7%, a sharp step up from the second quarter’s tepid 1.3% rate.
“There is little evidence the economy is ready to enter a downturn based on the Philadelphia Fed (data),” said Joseph LaVorgna, chief US economist at Deutsche Bank in New York.
That view was also underscored by the four-week moving average of initial jobless claims.
The claims data covered the survey week for the government’s closely watched nonfarm payrolls count for October. Initial claims dropped 25,000 between the September and October survey periods, suggesting a step-up in nonfarm employment after payrolls increased 103,000 last month.
In another report, the Conference Board said its index of leading economic indicators edged up 0.2% in September, pointing to continued sluggish growth. Still, it warned that the economy faced a 50% chance of recession whereas a month ago it said recession risks were lower than that.
Factories in the Mid-Atlantic region this month reported growth in order books after shrinkage for two straight months. Shipments rose too and there was an increase in unfilled orders, although employment slowed from September.
Still, manufacturers remain leery on the economic outlook.