Has the recent stock market debacle put any brokerage firms in trouble?
The Big Board says no, but Wall Street rumors persist that a growing number of brokerage houses, including some that are publicly owned, are actively seeking merger partners to strengthen their capital base. It's hardly news that big losses were sustained on brokerage firms' stock and bond portfolios.
One persistent report has it that First Boston Corp., the 45-year-old investment banking concern, has been aggressively shopping around for a partner because of a weakening financial condition.
I put that question to First Boston chief George Shinn over lunch, and he emphatically denied it. "I've heard the same rumors, but we're not in trouble and we're not merging with anybody," he said. In fact, Shinn told me that last week -- when fixed-income securities were taking their worst shellacking -- First Boston pulled down "a very healthy seven-figure profit" because it had held a fair-sized short position in bonds.
Shinn said he doesn't make earnings forecasts. But apparently those rumors that First Boston was in trouble -- some of which he linked to Goldman Sachs & Co. -- had gotten to him. And so besides telling me the firm was having a good year, he said he expects 1979 net to top $3 a share, up sharply from 1978's depressed 13 cents a share (because of currency fluctuations).
While First Boston may not be having any problems, as Shinn claims, it appears that some brokerage firms are hurting. This is evidenced by the fact that four of them approached First Boston within the past month to talk about the prospects of merging into the company.
"It was no surprise because I expect the industry to continue to shrink and consolidate," Shinn said. "It's a recognition that capital is important . . . and there are only a handful of well-capitalized firms in the Street."
Shinn wouldn't identify any of those four firms (at least one of which was publicly owned), but he did note that one was poorly capitalized and loaded with debt.
Although Shinn seemed to bend over backwards to avoid saying directly that the brokerage industry had its share of problems, his comments unmistakably implied it. For example, the big pursuit of the brokerage firm these days -- what with negotiated rates dramatically knocking down institutional commissions -- is the retail account (or John Q. Public).
But Shinn sees problems here. "The retail business is not going to be very strong because the small investor is not coming back into the stock market with these high money rates," he said. Shinn also pointed to the brokerage industry's mushrooming costs, notably for people and communications, and concluded that the retail side of the business will be hit hard by shrinking profit margins.
Adding to the industry's woes, as Shinn sees it, will be more bad news on the interest-rate front. (The sharp advance in interest rates had been the chief reason for the stock market's big decling.) Despite the recent credit-tightening actions by the Federal Reserve, there's still a large amount of money available around the world, Shinn said. Accordingly, he sees continuing high rates of inflation (12 percent to 13 percent at year-end and 12 percent to 14 percent in 1980). And this, in turn may well lead to even higher interest rates.
The prime rate (the interest that banks charge when they lend money to their best customers) should rise to 16 percent from its present 15 percent rate, and the discount rate (the interest banks pay to borrow from the Fed) is likely to go to 13 percent to 13 1/2 percent from 12 percent curently. f
Accordingly, Shinn sees a continuing chaos in the bond market.
Because he takes a rather dim view of the near-term prospects for both stocks and bonds, he obviously must think that brokerage firms are bound to suffer, his refusal to say so notwithstanding.
Another rumor that has been repeated frequently is that industry kingpin Merrill Lynch lost upwards of$50 million last week on its equity and bond inventories. But Merrill Lynch President William Schreyer insisted it isn't so.
"We didn't have that much inventory," he told me. He said that when Fed Chairman Paul Volcker announced his position -- tougher credit policies to fight inflation -- "we limited our exposure (a reference to cutting back stock and bond holdings). And that's why we had minimal losses."
Schreyer wouldn't give any figures, but sources indicate that Merrill's losses last week in bond and equity inventories ran around $10 million.
"It's our plan to remain prudent and cautious," Schreyer said. "We're in uncharted waters in interest rates . . . and this is a time you've got to play it cool."
The Big Board insists that it hasn't found any serious capitalization or operational problems. "We've been checking our member firms almost daily and they're not having any problems staying within the capital guidelines," a spokesman told me. Another Big Board spokesman reiterated the point, though hastening to add a most telling remark: "That's not to say there won't be any in the next few weeks."
Everyone's heard how well diamonds have done in beating out inflation. But what's the real number? Well, a diamond study, over a year in the works, has just been completed by Hertzy Hassenfeld, a leading New York diamond cutter, and it shows that for every 1 percent advance in inflation since 1967, investment-grade diamonds ($5,500 to $40,000 for a one-carat stone) rise 1.5 percent. And for every 1 percent advance in real gross national product, diamonds climb 3 percent. Diamonds, by the way, are up over 30 percent this year, following a 55 percent jump in 1978. My daughter's AT & T and Sears shares should only do so well.