Spring was not a time of rebirth and renewal for the trading desks at investment banks.
So what happened? In short, tranquil markets and regulations passed in the wake of the 2008 financial crisis have all contributed to dwindling trading revenues.
Buying and selling stocks, bonds and derivatives on behalf of pension funds and hedge funds, known as institutional investors, has long been a major source of revenue for investment banks. You may recall that the government was none too keen on banks doing all of that buying and selling for their own benefit, which resulted in the Volcker rule that banned that proprietary trading.
The rule led many firms to close their prop trading desks, which means that a lot of the impact on revenue has already been felt. But that's not the only regulatory change that's weighed heavy on trading.
Having to keep higher amounts of capital on hand to absorb loan losses has also forced banks to lower leverage and made some types of trading less profitable. Take for instance the repo markets, where securities are sold with an agreement to repurchase them later. Traders use these assets to fund their positions, but analysts say banks are holding fewer of them on their balance sheets to free up space for assets that produce higher returns.
Harvey Schwartz, Goldman Sachs' chief financial officer, said Tuesday that the bank cut $25 billion worth of repurchase agreements, effectively shrinking its balance sheet, to meet government demands that it keep higher capital compared with assets.
Trading has also suffered from low levels of volatility in the financial markets. In other words, traders make money off of market melodrama — the ups and downs that tend to freak out small-time investors like me. It just so happened that the three months ending in June were pretty chill.
On Tuesday, JPMorgan said revenue from trading bonds (fixed-income) tumbled 15 percent to $3.5 billion, while income from trading stocks (equities) fell 10 percent to $1.2 billion in the second quarter compared with the same period a year earlier. Those declines in revenue contributed to an overall 8 percent drop in the bank's profits.
Citigroup, meanwhile, said Monday that income from stock and bond trading tumbled 15 percent from the same period a year ago. On the bond side, the company recorded a 12 percent fall in revenue, which came in at $3 billion. Equity trading at the bank tumbled 26 percent to $659 million in revenue.
For its part, Goldman made $2.2 billion from its fixed-income, currency and commodities trading, nothing to sneeze at but still a 10 percent decline from the same period a year ago. The bank was able to offset that loss with a 15 percent increase in investment banking revenue, which lifted total earnings 5 percent to $2 billion.
Keep in mind that these numbers are well below the 20 percent to 25 percent drops the banks were predicting during the spring.
"There was the better activity in June," JPMorgan's chief financial officer, Marianne Lake, explained to an analyst who questioned the narrowed decline during a call Tuesday. "Every day on average produced a stronger result than the prior two months, and that helped."
Goldman's Schwartz pegged the uptick in activity to improved investor confidence after the European Central Bank decided to cut interest rates in early June.
"Economic growth in the long term is really what's going to drive sentiment, and sentiment will drive activity," he told analysts on a call Tuesday.