B-Ds Brace for Difficulty Ahead

Terry Flanagan

Broker-dealers had a difficult fourth quarter as market volatility declined and macroeconomic uncertainty continued.

Bulge bracket bank JPMorgan Chase was among the first of its peers to post its financial results for the fourth quarter of 2011. It experienced a 23% drop in profit year-over-year as its investment banking division was surpassed by its consumer credit card and auto loans unit.

Its investment banking operations saw a 30% drop year-over-year in revenue to $4.4 billion and a 52% decline in net income, to $726 million. This included a one-time $567 million loss from debit valuation adjustments resulting from tightening credit spreads. In contrast, its card services and auto division had income of $1.1 billion.

“These returns were reasonable given the environment, although the return for the fourth quarter was modestly disappointing,” said Jamie Dimon, JPMorgan chief executive officer. Despite the decline of the investment banking unit, Dimon still feels confident in its merits and fully expects it to bounce back.

“The big issue for the banks is, is this a cyclical or a secular problem,” said Richard Bove, an analyst at Rochdale Securities. “The leverage isn’t there and the market isn’t there.”

Citigroup and Wells Fargo also posted their Q4 numbers, with the two experiencing mixed results. Although Citi’s earnings fell 11%, Wells Fargo saw a 20% gain backed by its strong commercial lending business.

Aside from the third quarter of 2011, when market volatility spiked as several macroeconomic issues came to a head, equities trading volume has been on the decline in recent years, with has left broker-dealers with reduced revenues.

Market volatility was on a wild ride in 2011, as the Chicago Board Options Exchange Volatility Index indicated. Two and three percent intraday swings became the norm. The surges came in the wake of a slew of macroeconomic events, including the European debt crisis, the U.S. debt downgrade, and the collapse of MF Global. The VIX reached a high of 48 on Aug. 8, as the markets reacted to the lengthy U.S. debt ceiling negotiations and the Standard & Poor’s downgrade of U.S. debt. It then fluctuated from the low-30s to the mid-40s in the following months, surging as European debt concerns weighed on investors and declining as hopes for a potential resolution surfaced. In late October, the VIX had declined to as low as 25 before spiking up to above 36 in early November. As of mid-day Jan. 17, the VIX was trading at about 21.

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