Andy Klein
Bob Lessin
Philip Cooper
Jeff Max
Christopher Lynch
Chris Surr
Michael Paull |
Investment banks are scared. They may well play it down but the fear is palpable. It's caused by e-commerce, a catch-all phrase for the many advances in technology centred on the phenomenon that is the internet.
The big players will try to convince you that what they are doing is keeping pace with, if not driving the pace of, the benefits that technology can bring. And there may be some truth in that. But we are now at a stage where the previous wholesale financial markets structures are beginning to break down as the internet spreads through them.
Exchanges and their members no longer try to work in harmony, battling instead against each other's rival systems. Retail investors, empowered by the web, are fast becoming much more proactive and influential, at least in US equities. And across the board investment banks face the prospect of traditional revenue streams contracting or disappearing altogether as the internet brings transparency and efficiency to once-closed areas.
Investment banks usually have been the ones having to respond, rather than initiate. Take research as an example. In 1996 Fidelity asked its main brokers to start sending earnings models via e-mail so that its own analysts could manipulate the data as they saw fit. From there it was a short step to send more general research in the same way. Suddenly, once-restricted research is widely and often freely available.
The rapid developments that e-commerce has instigated in retail business during the past three years have stripped bankers of their arrogance. Merrill Lynch bowing to the pressure of cheap on-line retail broking in June - less than a year after senior executives were proclaiming that it wouldn't affect them - has been an eye-opener for investment banking.
Established leaders in the financial industry face an ever-growing army of new competitors. Charles Schwab may still dominate US on-line retail investing with just over a quarter of the market share but of the other top 10, three did not exist in the early 1990s (although two were born out of other technology companies): E*Trade started in 1992 and is now the second-largest on-line broker with 13.5% of the market; Datek Securities is three years old and has a 10.1% share and Ameritrade dates from 1997 and has captured an 8.5% market share, according to data from Standard & Poor's.
Could the revolution in retail stock dealing spread into core investment banking? There are potential threats and some new companies have been set up. At present these are focused mainly on offering investment-banking-style services to the retail investor but the knock-on effect could be severe, as the Securities and Investment Authority in the US estimates that the retail market is set to account for 50% of all equity trading volumes in the US by 2002.
Pricing and research, formerly the domain of investment banks, are the primary targets. WR Hambrecht, a new venture set up by Bill Hambrecht, co-founder and former CEO of Hambrecht & Quist, plans to make the pricing of IPOs - raising $100 million or so - more of a science by using algorithms to find the optimal price based on orders received. It charges less than the famous 7% that all smaller IPOs seem to warrant, taking instead between 5% and 6%. If that catches on, the more established investment banks will have no choice but to follow, and so see a long-standing revenue stream reduced.
The new banks are also offering retail investors free investment-banking-style research over the internet. Wit Capital, a New York-based venture that seeks co-lead manager mandates on IPOs to sell to retail and is 20%-owned by Goldman Sachs, appointed former Merrill Lynch internet analyst Jonathan Cohen to head its research. He had been sacked by Merrill late last year following a wrong call on AOL. He said they were overpriced, and were worth $17 a share. They went up to as high as $150 a share, and now trade at $100.
The banks will tell you, with some pride, of the electronic broking systems they are starting up, either alone or in a consortium with other banks, in debt or equity, as proof of their commitment to technology and to obtaining for customers the best price for a transaction. What they mention with rather less glee is the effect this will have on their business. It's not the costs - if anything they will make more money from having commoditized products with minuscule spreads traded electronically. The big fear is the loss of privileged access to information, which many banks use for their own purposes - fund managers so often complain that their bank appears to be using the information it has provided to them to trade against them.
E-commerce will strip that advantage from the banks. Given the anonymity that the trading systems usually provide, allowing all-comers to access liquidity, what does it mean for another service that investment banks have traditionally provided, that of awarding portions of equity and debt deals according to who their most valued clients are? Anonymity means that even the largest fund paying the most commission will have to pitch in with other funds, the Belgian dentist, mama and papa in Italy and whoever else is on the system.
If that weren't enough, most bankers envisage having only a short space of time in which to transform their traditional models into fluent e-commerce businesses. "My task is to make the role of head of e-commerce an irrelevance within two to three years," says Thorkild Juncker, managing director and head of the US bank's financial markets e-commerce effort. In other words, if e-commerce is not a seamless, integral part of your business plan by that time, you're probably out of the running.
"I'm reminded of something Andy Grove [chairman of Intel Corporation] said: 'If you're not scared to death every day, you're doomed'," recounts a senior executive in sales and trading at Morgan Stanley Dean Witter. "Am I scared every day? Sure. Do I fear being amazoned? Of course I do," he confesses, referring to the astounding success of amazon.com. in challenging the franchise of the US bookstore chain Barnes & Noble.