(The opinions expressed here are those of the author, a columnist for Reuters.)
By Jamie McGeever
LONDON, Sept 11 (Reuters) - The good news for the world’s top banks is that a dismal second quarter of bond trading is behind them. The bad news is that there is no pickup in sight.
Revenue from fixed income, currency and commodity (FICC) trading at the world’s top 12 investment banks fell 16 percent to $17 billion, the worst second quarter since 2008, a survey by industry analytics firm Coalition last week showed.
Hopes were high that the shoots of a trading upturn underpinned by last year’s twin shocks of Brexit and Donald Trump’s U.S. presidential election win would blossom into a sustained recovery in the three months to June.
But historically low market volatility, the lack of divergence between major central banks’ interest rates, and uncertainty surrounding MiFID-II European investment regulations that take effect in January instead sent that modest FICC resurgence into reverse.
Subdued market volatility tends to curtail market direction and momentum, making bank clients like hedge funds less inclined to place longer-term bets.
The running assumption is that volatility -- and hence trading volumes and hedging activities -- must pick up from here because it has been too low for too long and asset market levels and valuations are stretched. It’s not panning out that way.
Implied one-month volatility in U.S. Treasuries in June fell to its lowest in over a decade and has barely budged so far this quarter.
Implied volatility in the euro/dollar exchange rate has been more choppy, but only a little. It hit a three-year low of 5.5 percent in June and even now, at 8.5 percent, is almost bang on the average of the past five years of 8.4 percent.
It is also hard for hedge funds and other traders to take big positions exploiting widening interest rate differentials when there are no differentials to exploit.
The Federal Reserve looks closer to the end of its ultra-gradual tightening cycle than most would have envisaged at the start of the year. Indeed, with the composition of its board of governors uncertain following last week’s unexpected resignation of generally/often hawkish Vice Chair Stanley Fischer and the expiry next year of Chair Janet Yellen’s tenure, there are no further rate hikes priced into futures markets.
The European Central Bank, Bank of Japan and Bank of England look to be several months -- if not longer -- away from raising borrowing costs, so it is difficult to see the sustained pick-up in interest rates needed to generate a surge in bond trading.
In fact, Coalition estimates FICC revenue will fall around 15 percent year on year in the third quarter.
Commodities and G10 currency trading are areas of particular weakness - Q2 revenue in the former was the least since 2006 and in the latter one of the lowest in a decade.
G10 FX volatility fell to 6.77 percent in Q2, its lowest in almost three years. Although it has picked up since, it is still below the average over the past five years of 8.8 percent.
The MiFID-II rules, which will force investment banks to “unbundle” their services from January, could serve up a further hit to FICC trading early next year.
As part of new pre- and post-trade reporting structures, banks will have to make their pricing information public. ‘Buy side’ clients like hedge funds and asset managers may be tempted to hold off building positions until they assess the range of pricing on offer.
Banks usually accrue around 35-40 percent of their annual trading revenue between January and March, when their clients put money to work for the year ahead.
That is also when banks pay out bonuses for the previous year. Compensation packages, like all costs, remain under tight control and there is little evidence of pay or headcount on FICC trading floors rising.
According to Coalition, FICC headcount at the top 12 banks was 17,300 in the second quarter, the lowest since 2010 when it started analyzing employment data.
There seems little prospect of that number rising any time soon.
Reporting by Jamie McGeever; editing by John Stonestreet