Investment Banking and Capital Markets - BCG
Investment Banking and Capital Markets Market Report — Fourth Quarter 2007 February 29, 2008
Contents Review of 2007 and outlook
2
Overview of fourth quarter 2007 results
11
Market review • Fixed-income and equity trading • Corporate finance and advisory
18 25
Focus: The subprime crisis
33
Data definitions
41
BCG investment banking contacts
43 1
Contents Review of 2007 and outlook
2
Overview of fourth quarter 2007 results
11
Market review • Fixed-income and equity trading • Corporate finance and advisory
18 25
Focus: The subprime crisis
33
Data definitions
41
BCG investment banking contacts
43 2
It was a difficult year for investment banks Deterioration in the U.S. subprime mortgage sector had a profound impact on investment banks • The U.S. housing sector weakened and dislocation spread beyond the residential mortgage market • Rating-agency downgrades of certain structured assets led to greater risk aversion, a repricing of credit risk, and large write-downs Revenues of leading investment banks declined by more than 30 percent in 2007 • Goldman Sachs was the lone standout for the year, increasing revenue by 30.5 percent and preserving its pre-tax profit margin Industry growth is expected to return after 2008 • Growth in 2008 will be stagnant or slow, assuming write-downs will be contained • Revenues will increase between 6 and 11 percent per annum through 2012 • Strong growth is expected to come from emerging markets, which have been largely unaffected by the credit crunch • Equities are expected to drive medium-term growth in North America and Europe
Source: BCG analysis
3
Revenues of leading banks fell 32 percent despite corporate finance and advisory revenues growing 19 percent
Revenues by company: 2007 vs 2006
Total revenues % Change
($B)
($B)
35
179.3
30 25 20
121.7
-32.1%
75.0
-46.5%
15 140.1
10 5 0 -5
39.2
46.7
2006 Total
2007 Total
19.3%
-10 06 07 GS
06 07 DB
06 07 JPM
06 07 CS
06 07 LEH
06 07 MS
Corporate finance & advisory revenues
06 07 BSC
06 07 Citi
06 07 UBS
06 07 MER
Trading revenues
Note: Not including principal investments and other revenues Source: Company reports; BCG analysis
4
Goldman Sachs was the only leading bank that increased its profit margin and revenues in 2007 Pre-tax profit margins and revenues: 2007 vs 2006 Pre-tax profit margin (%) 50%
GS
Ø -30.4%
40%
2006 Ø: 33.8%
LEH
30%
JPM
DB
CS 20%
2007 2006
10%
MS
2007 Ø: 3.4%
0% 0.0
5.0
10.0
15.0
20.0
25.0
30.0
35.0
40.0
BSC -10%
Ø -30.8%
Revenues ($B)
Note: Ø calculated on a revenue-weighted basis; revenue includes investment banking, institutional sales and trading, and principal investments. Citi, MER, UBS are not shown Source: Company reports; BCG analysis
5
Write-downs weighed heavily on performance in 2007 But secular growth is expected to return after 2008
Fixed-income write-downs of ~$100 billion reduced 2007 revenue by 30%
Revenue forecast based on 2007, excluding one-time write-downs ($B)
($B) 500
500
478
CF&A
CF&A
Fixed Income
Fixed Income
Equities
Equities -30%
400
300
+7-9%
113
400
328 81
+13%
289
300
328
+6-8%
81 +16%
81
205
70
228 200
Observations
+6-8%
200 146
+2%
146
143 46 100
100 +9-11%
101
101
0
76
+32%
160
101
0
2007 including write-downs
2007 excluding write-downs
2006 CAGR
2007 excl write-downs
• Stagnant to slow growth in 2008 – not including potential further writedowns • Equities have the most promising near-term outlook • Return of liquidity and investor confidence critical to getting ‘back to normal’ • Expect mid-term recovery to high singledigit growth rates across all products • Secular growth drivers and business models largely intact
2012F
Note: Mid-point of CAGR range used for absolute revenue projections; assuming constant FX rates; CF&A = Corporate Finance & Advisory Source: Company reports, BCG analysis
6
Strong growth is expected in emerging markets ($B)
Observations
Global investment-banking revenues, 2006-2012
500
478 +7-9%
400
+13%
176
North America
19
Latin America
155
Europe
328 +6-8%
300
289 125 +6%
+9-13%
117 200 +55%
11
7
+5-7% +10%
100
7
Middle East
+20-25%
1
30 0
115
104
29
2006
+60% +42% +11%
2 43
+11-15%
32
+4-6%
2007 excl write-downs
81
Asia-Pacific, excl Japan
41
Japan
2012F
• Emerging markets (Latin America, Middle East, and Asia-Pacific, excluding Japan) largely unaffected by credit crunch • Stellar performance of emerging markets in 2007 was amplified by local currency appreciation • 2008 expected to be largely flat across Europe and North America • Despite lower growth, North America and Europe continue to be dominant capital-markets revenue pools • Significant recovery and return to secular growth expected after 2008
CAGR Note: Mid-point of CAGR range used for absolute revenue projections; assuming constant FX rates; CF&A = Corporate Finance & Advisory Source: Company reports, BCG analysis
7
Equities are expected to drive mid-term growth in North America and Europe North American investment-banking revenues, 2006-2012 ($B)
European investment-banking revenues, 2006-2012 ($B) 200
200
CF&A
CF&A Fixed Income
+6-8%
Equities
Equities 40
150 +6%
125
Fixed Income
176
28
+15%
155
150 34
+3-5% +10%
117 100
+5-7%
115
+3-5%
104
32 71
100
+16%
27
24
68
+5-7% +5-7%
57
-8%
53 50
50
-3%
52
+30%
36
53
64 32
+25%
40
+9-11%
27
53
0
0
2006 CAGR
+7-9%
2007 excl write-downs
2012F
2006
2007 excl write-downs
2012F
Note: Mid-point of CAGR range used for absolute revenue projections; assuming constant FX rates; CF&A = Corporate Finance & Advisory Source: Company reports, BCG analysis
8
Latin America and Middle East should continue growing across all products Latin American investment-banking revenues, 2006-2012
Middle Eastern investment-banking revenues, 2006-2012 ($B)
($B) 20
10
18.8
CF&A Fixed Income
CF&A Fixed Income
+9-13%
Equities
Equities 5.3
8
15
6.6 +9-13%
6
11.0
+20-25%
+55%
10
3.0
1.7 10.0
7.0
+60%
>+25%
4
+9-13%
1.9 5
+45%
2.3
6.0
4.1
1.0
2006 CAGR
>+25%
+60%
2
0
1.0
0.1 +95%
2.0
+9-13%
3.5
1.4 0.2
2012F
+25%
0.3
0.1
3.9
+13-17%
1.9
1.1 +75%
0
2007 excl write-downs
+27%
2006
2007 excl write-downs
2012F
Note: Mid-point of CAGR range used for absolute revenue projections; assuming constant FX rates; CF&A = Corporate Finance & Advisory Source: Company reports, BCG analysis
9
Asia-Pacific, excluding Japan, should continue growing Spectacular performance in 2007 will be followed by more modest, sustainable gains Asia-Pacific, excluding Japan, investmentbanking revenues, 2006-2012 ($B)
Japanese investment-banking revenues, 2006-2012 ($B)
100
100
CF&A
CF&A
Fixed Income
Fixed Income
Equities
Equities
81
80
80 +11-15%
26 60
60 +12-16%
43
+4-6%
+42%
40
33
13
30
+14%
40
29 5
+10-14%
12 20
+47%
18
20 16
12 7
+80%
12
+11-15%
+5%
32 5
+9%
17
+16%
10
41 7
+6-8%
+3-5%
21
+4-6%
13
22 8
0
0
2006 CAGR
+11%
2007 excl write-downs
2012F
2006
2007 excl write-downs
2012F
Note: Mid-point of CAGR range used for absolute revenue projections; assuming constant FX rates; CF&A = Corporate Finance & Advisory Source: Company reports, BCG analysis
10
Contents Review of 2007 and outlook
2
Overview of fourth quarter 2007 results
11
Market review • Fixed-income and equity trading • Corporate finance and advisory
18 25
Focus: The subprime crisis
33
Data definitions
41
BCG investment banking contacts
43 11
Investment banks were hit hard in the fourth quarter The BCG performance index plummeted in the fourth quarter • On average, revenues of the leading players fell by 170.6 percent from the previous quarter • In a difficult quarter marked by write-downs, several major banks managed to increase revenues – Deutsche Bank, Credit Suisse, JPMorgan, and Lehman The subprime crisis continued to spread • Global capital markets continued to re-price credit risk, resulting in a severe dislocation in structured credit markets. The quarter was characterized by illiquidity in fixed-income markets, lower levels of client activity across fixed-income sectors, and a significant revaluation of mortgage inventories • The most troubled sectors were RMBS, CMBS, CDOs, leveraged loans, and commercial real estate • Subprime-related write-downs could reach as high as $400 billion,1 from around $100 billion today Fixed-income revenues were heavily affected by the downturn Fixed-income and equity trading • Sales and trading revenues were more than 300 percent lower than the previous quarter and 190 percent lower than the same period last year. Fixed-income revenues were adversely affected by writedowns. Revenue from equity-trading activities was 25.5 percent higher than the previous quarter and 24.0 percent higher than the same period last year Corporate finance and advisory • Corporate finance and advisory revenues grew by 23.7 percent over the previous quarter and were 11.7 percent higher than the same quarter last year. Growth in advisory activity and equity underwriting was offset by lower debt underwriting 1. G7 Finance Ministers forecasts, February 2008 Source: BCG analysis
12
Industry performance plummeted BCG Investment Banking Performance Index Index (Q1/01= 100)
242.5
250 172.4 150
133.9
131.5 96.6
50 -50
Q2/04
73.3
95.0
Q4/04
133.5
165.1 119.2
218.3
193.3 135.9
83.5
Q2/05
Q4/05
Q2/06
Q4/06
Q2/07
-9.8 Q4/07
-150 -250 -350 -450 -550
-549.4
-650
2004
2005
2006
2007
Note: The BCG Investment Banking Performance Index is calculated based on aggregate profits of ten leading banks Source: Company reports; BCG analysis
13
Fixed-income and equity-trading volumes decreased, while corporate finance and advisory work was resilient Trading volumes
Corporate finance and advisory volumes
Equity trading
($T)
M&A advisory2
($B)
16
1,000
12
800 600
8
400
4
200 0
0 Q4/04
Q2/05
Q4/05
Q2/06
Q4/06
Q2/07
Q4/04
Q4/07
US bond trading1
($B)
Q2/05
Q2/06
Q4/06
Q2/07
Q4/07
Q2/07
Q4/07
Equity origination
($B)
1,500
Q4/05
100 80
1,000
60 40
500
20 0 Q4/04
0 Q2/05
Q4/05
Q2/06
Q4/06
Q2/07
Q4/07
Asia-Pacific
Q4/04
Americas
Q2/05
Q4/05
Q2/06
Q4/06
EMEA
1. Daily average trading volumes for treasuries, agencies, asset-/mortgage-backed securities (ABS/MBS), and corporate bonds 2. Announced transactions Source: Thomson SDC; World Federation of Exchanges; Federal Reserve Bank of New York; BCG analysis
14
Several players managed to increase revenues Pre-tax profit margins and revenues: Q4 2007 vs Q3 2007 Pre-tax profit margin (%) 60%
GS 50% 40%
LEH
30%
DB
20%
CS
10%
Q4/07 Q3/07
JPM
0% 0.0
1.0
2.0
3.0
4.0
5.0
6.0
7.0
8.0
9.0
10.0
Q3/07 11.0 Ø: -3.8%
-10% -20%
Ø -170.6%
Revenues ($B)
Note: Ø calculated on a revenue-weighted basis; revenue includes investment banking, institutional sales and trading, and principal investments. BSC, Citi, MER, MS, and UBS are not shown Source: Company reports; BCG analysis
15
Revenues of leading banks dropped 140 percent from the same period last year Pre-tax profit margins and revenues: Q4 2007 vs Q4 2006 Pre-tax profit margin (%) 60%
GS
50%
Q4/06 Ø: 38.5%
40%
30%
LEH
20%
DB 10%
Q4/07 Q4/06
CS
JPM 0% 0.0
1.0
2.0
3.0
4.0
5.0
6.0
7.0
8.0
9.0
-10%
Ø -140.2%
Revenues ($B)
Note: Ø calculated on a revenue-weighted basis; revenue includes investment banking, institutional sales and trading, and principal investments. BSC, Citi, MER, MS, and UBS are not shown Source: Company reports; BCG analysis
16
Slight gain in corporate finance and advisory revenues was not enough to offset the drop in trading revenues
Revenues by company: Q4 2007 vs Q4 2006
Total revenues % Change
($B)
($B)
9 46.2
6 3 34.6
0
-19.3
-3
-141.7%
-6 11.6
11.8
4Q06 Total
4Q07 Total
1.2%
-9 -12 -15 -31.1
-189.8%
-18 06 07 GS
06 07 DB
06 07 LEH
06 07 CS
06 07 JPM
06 07 BSC
Corporate finance & advisory revenues
06 07 MS
06 07 UBS
06 07 ML
06 07 Citi
Trading revenues
Note: Not including principal investments and other revenues Source: Company reports; BCG analysis
17
Contents Review of 2007 and outlook
2
Overview of fourth quarter 2007 results
11
Market review • Fixed-income and equity trading • Corporate finance and advisory
18 25
Focus: The subprime crisis
33
Data definitions
41
BCG investment banking contacts
43 18
Equity trading fared better than fixed-income trading Fixed-income trading • Fixed-income markets recorded negative revenue during the fourth quarter – They were nearly 300 percent lower than the same quarter last year as subprimerelated exposure resulted in heavy write-downs – Credit spreads widened during the quarter, reflecting a substantial re-pricing of risk – Revenues from FX, money market, and commodities increased, offsetting the declines in credit products • US bond-trading volumes were 4.0 percent lower than the previous quarter Equity trading • Revenues from equity trading increased 25.5 percent in the fourth quarter and were 24.0 percent higher than they were during the same period last year – Trading volumes dropped by 33 percent in the quarter. Equity markets experienced high volatility – the VIX increased 25 percent in the quarter and was 94.6 percent higher than the same quarter last year
Source: BCG analysis
19
Fixed-income trading
Subprime write-downs eroded fixed-income revenues
US weekly average bond-trading volumes
Fixed-income trading revenues by quarter Index1
($B) 1,400
913
919 954
1,072 956
1,054
1,092
1,108
1,063
1,037
1,070
1,149
1,066
1,277
1,178
300
1,225
148
105 126
166 108
154 116
192 117
163 185
14
232 173
204
-373
200
1,050
100
700 0
350 (100)
(400)
0 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2004 Treasury/Agencies
2005
2006 MBS/ABS
Corp Bonds
2007
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2004
2005
2006
2007
Total
1. Q1/02 = 100 Note: Daily average trading volumes with inter/dealer brokers and others; aggregated trading revenues for ten leading investment banks surveyed Source: Federal Reserve Bank of New York; BCG analysis
20
Fixed-income trading
Yield curve is becoming steeper US ten-year/two-year treasury yield spread Basis points 300
200
100
0
(100)
Dec-97
Dec-98
Dec-99
Dec-00
Dec-01
Dec-02
Dec-03
Dec-04
Dec-05
Dec-06
Dec-07
Source: Bloomberg
21
Equity trading
Equity-trading volumes fell but revenues increased
Global-exchange trading volumes
Equity-trading revenue by quarter Index1
($T) 11.3
30
9.2 10.5
12.3 11.2
12.8 12.1
17.6 13.8
15.5 18.7
22.1 18.2
27.0 25.0
126 18.1
300
25
250
20
200
15
150
10
100
5
50
0
89 101
137 111
155 112
226 141
153 186
286 195
193 275
242
0
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2004 Americas
2005 Asia-Pacific
2006 EMEA
2007
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2004
2005
2006
2007
Global
1. Q1/02 = 100 Note: Trading volumes single counted, includes investment funds traded at exchanges; aggregated trading revenues for ten leading investment banks surveyed Source: Federal Reserve Bank of New York; BCG analysis
22
Equity trading
The crisis affected equity markets
Development of main equity indices
Percentage change in equity indices (%)
Index1
6
180
4.2
4.1
4
150 2 S&P 500
0.2
0
120
-2
FTSE 100
90 -4
-3.2
Nikkei 225
-6
60
-8
30 -10
-11.1
-12
0 Q4 1997
-8.8
Q4 1998
Q4 1999
Q4 2000
Q4 2001
Q4 2002
Q4 2003
Q4 2004
Q4 2005
Q4 2006
Q4 2007
Q4/07 Change
S&P 500
Q4/07 versus Q4/06
Nikkei 225
FTSE 100
1. September 1997 = 100 Source: Bloomberg, BCG analysis
23
Equity trading
Market volatility was up significantly compared with the same period last year
Market volatility index (VIX)
Percentage change in VIX
Index
(%)
50
100
40
80
30
60
20
40
94.6
25.0
10
20
0
0
Q4 1997
Q4 1998
Q4 1999
Q4 2000
Q4 2001
Q4 2002
Q4 2003
Q4 2004
Q4 2005
Q4 2006
Q4 2007
Q4/07 Change
Q4/07 versus Q4/06
Source: Bloomberg
24
Contents Review of 2007 and outlook
2
Overview of fourth quarter 2007 results
11
Market review • Fixed-income and equity trading • Corporate finance and advisory
18 25
Focus: The subprime crisis
33
Data definitions
41
BCG investment banking contacts
43 25
Despite the market turmoil, advisory and equity-origination activity increased in the fourth quarter Advisory • M&A activity increased 35.1 percent over the previous quarter, and was 20.4 percent higher than the same period last year – Driven by a strong backlog of announced deals – Current M&A activity, and therefore growth forecast for 2008, is significantly lower – Morgan Stanley had the highest share in both Americas and EMEA Corporate Finance • Equity origination was 47.9 percent higher than the previous quarter – Underwriting increased in all three regions, with EMEA and Americas rising by 131.9 percent and 41.0 percent respectively • Debt origination dropped significantly during the quarter, reflecting declines in leveraged finance and mortgage-related activity – Bond issuance was 14.1 percent lower than the previous quarter and 46.1 percent lower than the same period last year – Corporate bond issuance increased by 41.9 percent over the previous quarter
Source: BCG analysis
26
Advisory
The deal backlog from previous quarters fueled growth in effective M&A deals
Effective M&A deals ($B) 1,400
255
495 425
390 465
722 480
734 729
Percentage change in M&A deals
708 650
874 962
(%)
875 943
1,158
80 72
1,200 134 1,000 91 86
800
549 496
400
54
35 241 200 112
75 329 326 376
76 57 43
47
122
74 93
600
125 570
91 123 86
60
41
40
464
311
471 21
321 20
194 250 267 181
323 322 291 353 307 280 273 264 235 211 169 141 166 108 130
10
454
0
4
0 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2004
EMEA
2005
Americas
2006
Asia-Pacific
Q4/07 versus Q3/07
Q4/07 versus Q4/06
2007
Global
EMEA
Americas
Asia-Pacific
Total
Source: Thomson SDC; BCG analysis
27
Advisory
Morgan Stanley had the highest share of advisory services in both the Americas and EMEA
Share of Americas M&A
Share of EMEA M&A Relative market position Q4/07 (%)
Relative market position Q4/07 (%) 100
MS
100
MS GS
Gained share
Citi
Gained share MER
80
80
GS
UBS CS
Citi
JPM DB
60
60
MER
CS
JPM LEH
LEH
40
40 DB UBS
20
20
BSC
Lost share
Lost share BSC
0
0 0
20
40
60
80
100
Relative market position Q4/06 (%)
0
20
40
60
80
100
Relative market position Q4/06 (%)
Note: Market position expressed relative to market leader Source: Thomson SDC; BCG analysis
28
Corporate finance
Equity underwriting had a strong finish to the year
Equity issuance
Percentage change in equity issuance
($B) 119
250
88 90
104 127
125 93
128 148
112 149
147 226
(%)
149 231
220
140
132
120
200
71
100
76
94
80
150 60
31 100
70
40
38
39
43 50
26
25 43 32
38 38 29
32
55
43
46
53
43
41
40
49
30 50 37 44
40
20
49
48 28
43 95
77
31
61
39
29 22
43 66
51
52
50 45
9
9
10
0
84
54 36
0
(20) -19
(40)
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2004
EMEA
2005
Americas
2006
Asia-Pacific
Q4/07 versus Q3/07
Q4/07 versus Q4/06
2007
Global
EMEA
Americas
Asia-Pacific
Total
Source: Thomson SDC; BCG analysis
29
Corporate finance
Deutsche Bank performed well in EMEA, while Credit Suisse made strong gains in the Americas
Share of Americas equity capital markets
Share of EMEA equity capital markets
Relative market position Q4/07 (%)
Relative market position Q4/07 (%)
100
CS Gained share
100
DB
Gained share
MER UBS GS
JPM MS
75
75
Citi JPM
Citi LEH
UBS
GS
50
50
CS
MS
MER
DB
25
25 BSC LEH Lost share
Lost share
BSC
0
0 0
20
40
60
80
100
Relative market position Q4/06 (%)
0
20
40
60
80
100
Relative market position Q4/06 (%)
Note: Market position expressed relative to market leader Source: Thomson SDC; BCG analysis
30
Corporate finance
Turmoil in credit markets dampened total bond issuance, but corporate bond issuance increased
Issuance of all bonds
Issuance of corporate bonds
($T)
($T) 1,430
2,500
1,165
1,147
1,500
1,150
1,287
1,504
1,736
1,453
1,517
1,669
2,007
1,863
1,168
2,111
1,004
116 129
121 131
114 140
177 127
146 169
187 209
139 261
250
132
2,000
132
300
197
32
111 125 110
1,500
86 100
87
200
107 107
97 100 991
85 83 69 1,000
812 857
804
898
19
1,0791,209 1,014
150 80
1,002 913
17 20
111 705
77 59
569 500 539
380 332 355
602 547
725 817 771 635 560 498 457 383 324 313
0
19 82
69
62
20 23
93
30
22 136
24 22
25
17 20
100
874
681 749 726
23
119
24 103
82
114
66
66
57
80
60
50
93 38
51
28 32
41 49 31
65 63 58 67 50
62 35
53
0 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2004
2005
2006
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4
2007
EMEA
2004
Americas
Asia-Pacific
2005
2006
2007
Global
Note: Corporate bonds for industrial issuers only; global figures may differ from the sum of sub-totals due to rounding Source: Thomson SDC; BCG analysis
31
Corporate finance
Deutsche Bank took the top position in bond underwriting in EMEA
Share of Americas bond underwriting
Share of EMEA bond underwriting
Relative market position Q4/07 (%)
Relative market position Q4/07 (%) Citi
100
100
JPM
DB
Gained share
Gained share
80
LEH
MER
80
MS
Citi
DB
60
60
GS CS
BSC
40
MER CS
MS
40
UBS
JPM
UBS GS
LEH
20
20 Lost share
Lost share BSC
0
0 0
20
40
60
80
100
Relative market position Q4/06 (%)
0
20
40
60
80
100
Relative market position Q4/06 (%)
Note: Market position expressed relative to market leader; Barclays Capital was leader in Q4/06 in EMEA Source: Thomson SDC; BCG analysis
32
Contents Review of 2007 and outlook
2
Overview of fourth quarter 2007 results
11
Market review • Fixed-income and equity trading • Corporate finance and advisory
18 25
Focus: The subprime crisis
33
Data definitions
41
BCG investment banking contacts
43 33
The global credit crisis reshaped capital markets in 2007 US
Non-US
Global Central banks inject liquidity, ECB ($300B), US Fed ($38B), Banks of Japan, Canada, Australia ($15B)
Other financial activities
HSBC US consumer finance arm increases bad debt provisions to $10B, with more expected
Investment and retail activities Ownit bankrupt
2007
Events
Jan From late 2006 higher interest rates, expiring 'teaser' rates and slow house price growth leads to higher level of defaults
Source: Press, BCG analysis
ResMAE and MLN bankrupt
Feb
Mar
UBS folds in house hedge fund
Two Bear Stearns Funds ($10B) liquidated; hedge funds liquidated (US, UK and Aus)
Novastar and New Century Financial bankrupt
Kensington Group reports firsthalf losses £10B
Apr
Spread blow WSJ reports out at low major banks end of ABX are demanding Index — mortgage worldwide originators buy stock index back defaulting falls by 6% loans in a week
May
Jun
IKB bail out €10.3B Saschen LB bail out €17.3B
AIG write down $550M
Swiss Re writedown $1B AIG write down further $600M
$23.6B write- $20.4B writedowns downs announced announced including including Merrill Citi, Morgan Lynch, UBS, Stanley, Credit HSBC Suisse, JP Morgan
Countrywide bailout $2B Northern American Rock bail Home out Mortgage ~$114B bankrupt
Jul
Late S&P/Moody's payments downgrade on subprime thousands of mortgages MBS (valued reported at at $17B) — 14%, up this leads to from 5.4% a selling in 2005 frenzy
Aug
Sep
Interbank overnight lending rates increase sharply and stay high through December
Coordinated liquidity injection US Fed, ECB, BOE, Canada and Switz of $87B; ECB injects further $500B $72.2B writedowns including UBS, Morgan Stanley, Lehman & Merrill
Delta Financial bankrupt
Oct
S&P and Moody's downgrade 1,000s more MBS valued at $100B
Nov Foreclosures on 2006 mortgages predicted to continue rising through 2008
Dec/Jan Increasing number of announced write-downs by major banks (~$120B in total for top 100 banks) 34
The roots of the crisis are now well understood Global capital surplus
Expanding access to credit U.S. Mortgage Origination and Securitization By Product ($B)
Contributors to excess liquidity
Index: Ratio 140 of aggregated money supply 130 to nominal GDP 120 (Q1 1983 = 100)
2001
Other countries
Japan 23%
2005
$2,100
% 100
$3,120
100
EMU 32% 80
80
UK 9% US 9%
110
33%
60
China 32%
45%
60
100%
100%
India 4% 40
40
63%
100
US
90
45%
20
36%
0
36%
0
0
80
55%
20
36%
500
FHA/VA
1000
Conforming
1983 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 Ginnie Mae
Private Conduit
Fannie Mae
Unsecuritized
1500
2000 $B
0
500
FHA/VA
Jumbo Sub-Prime Alt-A
1000
1500
Conforming
2000
Jumbo
2500
3000
Sub-Prime Alt-A
65% CAGR from ~5% to ~30% of the market
Freddie Mac
65% CAGR
Risky securitization
Non-transparent risk concentration
Global CDOs
Volumes ($B)
Investors want cash back Corporates
Market Value Synthetic funded
120
Loans to Private Equity
160
stops or reduces financing
interest, amortization
sells CDO (containing many loans and refinanced in many tranches)
buys based on debt funding Private Equity funds
pays fees
stops or reduces financing
40
Q1 '04
Q2 '04
Q3 '04
Source: SIFMA, UniCredit
Q4 '04
Q1 '05
Q2 '05
Q3 '05
Q4 '05
Q1 '06
Q2 '06
Q3 '06
Q4 '06
Suprime crisis
0
sells CDO and MBS with discount
sells loans with discount
finalizes
Bank Mortgage Loans
Cash flow and hybrid
CDO Manager, HedgeFunds
sells loans (for RWA reduction)
buys loans
80
Hedge funds, tradition. funds, insurer
sells mortgages
buys mortgages interest, amortization
MBS2Manager
Home owner
sells MBS (containing many loans and refinanced in many tranches)
Claims
House owner can no longer pay interest on their mortgages
Increase of nervousness Ratings for MBS deteriorate, prices fall
Loss of assets
Cycle of PE and mortgage financing disturbed and disrupted
Risk acquisition by banks 35
The crisis has spread beyond the mortgage market Massive deterioration in price of subprime ABS — dry-out of 2nd markets
Spill-over to subinvestment-grade corporate bonds ...
(%)
... and investment-grade corporate and — in particular — bank bonds %
bps
bps
70
100
Flight to quality and mistrust of interbank money markets
39 bps
5.0 4.74
AAA
60
400
80 AA
4.5
3M Euribor
50
-78%
40 A
300
30 Itraxx Europe3
BBB-
200
10
Itraxx senior financials4
0
0.82 Gap
0.5
Gap
72 bps
Jan Feb Mar Apr May Jun Jul Aug Sept Oct Nov
0.0
Jan Feb Mar Apr May Jun Jul Aug Sept Oct Nov
Jan Feb Mar Apr May Jun Jul Aug Sept Oct Nov
0
2007
3M Euro Govt bonds yield
20
BBB
20
49 bps
159 bps
ABX1: Price index for US subprime securitizations
3.92
4.0
2007
2007
Jan Feb Mar Apr May Jun Jul Aug Sept Oct Nov
60
40
Itraxx crossover2 for sub-investment grade CDS
2007
1. ABX Index contains a series of credit-default swaps (CDS) based on 20 bonds that consist of subprime mortgages 2. iTraxx crossover index consists of 45 sub-investment grade CDS 3. iTraxx Europe consists of 125 most liquid European 5Y-CDS with investment grade rating 4. iTraxx Senior Financial Europe consists of 5Y-CDS insuring senior debt of 25 European financial companies Note: Credit default swaps are synthetic derivative instruments used to transfer credit risk. The price of CDS can be used as a proxy for the price of credit risk associated with the particular rating/company Source: BCG analysis
36
In 2007, some players incurred losses that eclipsed their profits from 2006 Major bank write-downs1 (selection) compared to 2006 profits ($B) 25 21 22
21 19
20
18 15 12
11
11 10
10 8
10
8 6
6
6
5
5
4
5 3
4
3
3
3
2
3
3
4
3
2
2
0
1
HBOS
Lehman Bros
Goldman Sachs
Credit Suisse
RBS
IKB
Bear Stearns
JP Morgan
Deutsche
Barclays
Credit Agricole
BofA
Morgan Stanley
UBS
Merrill
Citi
0
Write-downs 2006 profit 1. As of January 2008 Source: Financial Times, Wirtschaftswoche, Thomson Financial, Datastream, FAZ-Archiv, Financial News
37
The crisis corrected widely held perspectives about credit markets
Key insights Limited loss experience for newer types of credit Weak credit analysis across the mortgage value chain Excessive credit-risk concentration on bank balance sheets Absence of obvious 'natural long' for certain types of credit risk
Implications Short-term • Ongoing liquidity concerns and risk aversion • Focus on risk sizing and price transparency • Business scale and scope rationalization • Selective acquisitions of assets and franchises Long-term • Appropriate risk pricing • Improved risk distribution • Sustained market consolidation • Increased capital/leverage constraints on regulated entities (eg, banks, insurers)
Participant responses Originators • Cost and complexity reduction • Continued consolidation • Enhanced risk and balancesheet quality focus Investment banks • Securitization capacity rationalization • Business model review – Business diversification – Value-chain integration – Agency versus proprietary • Risk management focus Investors • Prepare to weather credit cycles • Investment to upgrade credit-analysis capability
Source: BCG analysis
38
Total shareholder return (TSR) analysis clearly shows the value of business diversification and risk management Challenged players
Business model (no. of banks)
Advantaged players
Investment banking (8) 17 (34) (8)
Most US-based IBs with significant exposure to subprime ABS
Universal banks in developed economies exposed to subprime losses either from their retail activities, wholesale funding, or both
The few IBs who successfully hedged subprime exposure
Diversified universal banks not highly dependent on US capital markets and with significant presence in emerging markets, eg, Turkey, Brazil
Universal (59) (42)
118 (1)
Mortgage banks with significant exposure to subprime origination in the US, and banks that financed mortgages through short-term funding (eg, Northern Rock in the UK)
(89)
In general, non-diversified players with significant exposure to subprime origination or securitization
(89)
Retail/commercial (59) 142 5
Total (126)
(150)
(100)
142
0
(50)
0
50
100
150
1 yr TSR (Nov 06–07) (%)
Diversified retail banks whose domestic markets are evolving rapidly and are in an early stage of development; eg, China, Eastern Europe, Brazil In general, diversified players with exposure to emerging markets, and those who successfully manage risks Min/max Weighted average1
1. Average market cap Nov 06-07 Note: Analysis of top 100 publicly listed banks by market cap, total assets and tier one capital; Excludes ABN AMRO due to acquisition activity; Banks classified based on predominant business model Source: Datastream; BCG analysis
39
Securitization can rebound, provided the industry resolves key structural issues
Logic for ongoing securitization Balance-sheet constraints of originators and banks Regulatory incentives favouring securitization Availability of investor capital once market confidence is restored Investor sophistication and tailored-asset needs
Structural issues to be resolved How should the system ensure adequate credit and price discipline across the value chain, including origination, securitization, and investing? Along the value chain, whose balance sheet represents the 'natural long' position for the risk exposure associated with credit instruments? How should banks prevent excessive risk concentration given internal return expectations and ongoing risk acquisition from client transactions?
Source: BCG analysis
40
Contents Review of 2007 and outlook
2
Overview of fourth quarter 2007 results
11
Market review • Fixed-income and equity trading • Corporate finance and advisory
18 25
Focus: The subprime crisis
33
Data definitions
41
BCG investment banking contacts
43 41
Data definition overview • Regional deal allocation is based on issuer’s country (parent issuer’s country, where available); M&A deals are allocated by target nation • Thomson SDC was used for capital-market data • Relative market shares are based on bookrunner league tables • Equity capital markets data include common stock IPOs and secondary issues only • Data on bond origination contain all convertible and nonconvertible bonds, including ABS, MBS, municipals, agency, and corporate bonds • Corporate bonds are limited to industrials and utilities, excluding financial services issuers
42
Contents Review of 2007 and outlook
2
Overview of fourth quarter 2007 results
11
Market review • Fixed-income and equity trading • Corporate finance and advisory
18 25
Focus: The subprime crisis
33
Data definitions
41
BCG investment banking contacts
43 43
BCG investment banking contacts Achim Schwetlick Partner and Managing Director New York +1 212 446 2800 [email protected]
Robert Grübner Partner and Managing Director Hamburg +49 40 30 99 60 [email protected]
Ranu Dayal Partner and Managing Director Singapore +65 6429 2500 [email protected]
Shubh Saumya Partner and Managing Director New York +1 212 446 2800 [email protected]
For questions regarding methodology and analyses, please contact: Anthony Cheong New York +1 212 446 2800 [email protected]
Josh Ellstein New York +1 212 446 2800 [email protected]
44
Contents Review of 2007 and outlook
2
Overview of fourth quarter 2007 results
11
Market review • Fixed-income and equity trading • Corporate finance and advisory
18 25
Focus: The subprime crisis
33
Data definitions
41
BCG investment banking contacts
43 1
Contents Review of 2007 and outlook
2
Overview of fourth quarter 2007 results
11
Market review • Fixed-income and equity trading • Corporate finance and advisory
18 25
Focus: The subprime crisis
33
Data definitions
41
BCG investment banking contacts
43 2
It was a difficult year for investment banks Deterioration in the U.S. subprime mortgage sector had a profound impact on investment banks • The U.S. housing sector weakened and dislocation spread beyond the residential mortgage market • Rating-agency downgrades of certain structured assets led to greater risk aversion, a repricing of credit risk, and large write-downs Revenues of leading investment banks declined by more than 30 percent in 2007 • Goldman Sachs was the lone standout for the year, increasing revenue by 30.5 percent and preserving its pre-tax profit margin Industry growth is expected to return after 2008 • Growth in 2008 will be stagnant or slow, assuming write-downs will be contained • Revenues will increase between 6 and 11 percent per annum through 2012 • Strong growth is expected to come from emerging markets, which have been largely unaffected by the credit crunch • Equities are expected to drive medium-term growth in North America and Europe
Source: BCG analysis
3
Revenues of leading banks fell 32 percent despite corporate finance and advisory revenues growing 19 percent
Revenues by company: 2007 vs 2006
Total revenues % Change
($B)
($B)
35
179.3
30 25 20
121.7
-32.1%
75.0
-46.5%
15 140.1
10 5 0 -5
39.2
46.7
2006 Total
2007 Total
19.3%
-10 06 07 GS
06 07 DB
06 07 JPM
06 07 CS
06 07 LEH
06 07 MS
Corporate finance & advisory revenues
06 07 BSC
06 07 Citi
06 07 UBS
06 07 MER
Trading revenues
Note: Not including principal investments and other revenues Source: Company reports; BCG analysis
4
Goldman Sachs was the only leading bank that increased its profit margin and revenues in 2007 Pre-tax profit margins and revenues: 2007 vs 2006 Pre-tax profit margin (%) 50%
GS
Ø -30.4%
40%
2006 Ø: 33.8%
LEH
30%
JPM
DB
CS 20%
2007 2006
10%
MS
2007 Ø: 3.4%
0% 0.0
5.0
10.0
15.0
20.0
25.0
30.0
35.0
40.0
BSC -10%
Ø -30.8%
Revenues ($B)
Note: Ø calculated on a revenue-weighted basis; revenue includes investment banking, institutional sales and trading, and principal investments. Citi, MER, UBS are not shown Source: Company reports; BCG analysis
5
Write-downs weighed heavily on performance in 2007 But secular growth is expected to return after 2008
Fixed-income write-downs of ~$100 billion reduced 2007 revenue by 30%
Revenue forecast based on 2007, excluding one-time write-downs ($B)
($B) 500
500
478
CF&A
CF&A
Fixed Income
Fixed Income
Equities
Equities -30%
400
300
+7-9%
113
400
328 81
+13%
289
300
328
+6-8%
81 +16%
81
205
70
228 200
Observations
+6-8%
200 146
+2%
146
143 46 100
100 +9-11%
101
101
0
76
+32%
160
101
0
2007 including write-downs
2007 excluding write-downs
2006 CAGR
2007 excl write-downs
• Stagnant to slow growth in 2008 – not including potential further writedowns • Equities have the most promising near-term outlook • Return of liquidity and investor confidence critical to getting ‘back to normal’ • Expect mid-term recovery to high singledigit growth rates across all products • Secular growth drivers and business models largely intact
2012F
Note: Mid-point of CAGR range used for absolute revenue projections; assuming constant FX rates; CF&A = Corporate Finance & Advisory Source: Company reports, BCG analysis
6
Strong growth is expected in emerging markets ($B)
Observations
Global investment-banking revenues, 2006-2012
500
478 +7-9%
400
+13%
176
North America
19
Latin America
155
Europe
328 +6-8%
300
289 125 +6%
+9-13%
117 200 +55%
11
7
+5-7% +10%
100
7
Middle East
+20-25%
1
30 0
115
104
29
2006
+60% +42% +11%
2 43
+11-15%
32
+4-6%
2007 excl write-downs
81
Asia-Pacific, excl Japan
41
Japan
2012F
• Emerging markets (Latin America, Middle East, and Asia-Pacific, excluding Japan) largely unaffected by credit crunch • Stellar performance of emerging markets in 2007 was amplified by local currency appreciation • 2008 expected to be largely flat across Europe and North America • Despite lower growth, North America and Europe continue to be dominant capital-markets revenue pools • Significant recovery and return to secular growth expected after 2008
CAGR Note: Mid-point of CAGR range used for absolute revenue projections; assuming constant FX rates; CF&A = Corporate Finance & Advisory Source: Company reports, BCG analysis
7
Equities are expected to drive mid-term growth in North America and Europe North American investment-banking revenues, 2006-2012 ($B)
European investment-banking revenues, 2006-2012 ($B) 200
200
CF&A
CF&A Fixed Income
+6-8%
Equities
Equities 40
150 +6%
125
Fixed Income
176
28
+15%
155
150 34
+3-5% +10%
117 100
+5-7%
115
+3-5%
104
32 71
100
+16%
27
24
68
+5-7% +5-7%
57
-8%
53 50
50
-3%
52
+30%
36
53
64 32
+25%
40
+9-11%
27
53
0
0
2006 CAGR
+7-9%
2007 excl write-downs
2012F
2006
2007 excl write-downs
2012F
Note: Mid-point of CAGR range used for absolute revenue projections; assuming constant FX rates; CF&A = Corporate Finance & Advisory Source: Company reports, BCG analysis
8
Latin America and Middle East should continue growing across all products Latin American investment-banking revenues, 2006-2012
Middle Eastern investment-banking revenues, 2006-2012 ($B)
($B) 20
10
18.8
CF&A Fixed Income
CF&A Fixed Income
+9-13%
Equities
Equities 5.3
8
15
6.6 +9-13%
6
11.0
+20-25%
+55%
10
3.0
1.7 10.0
7.0
+60%
>+25%
4
+9-13%
1.9 5
+45%
2.3
6.0
4.1
1.0
2006 CAGR
>+25%
+60%
2
0
1.0
0.1 +95%
2.0
+9-13%
3.5
1.4 0.2
2012F
+25%
0.3
0.1
3.9
+13-17%
1.9
1.1 +75%
0
2007 excl write-downs
+27%
2006
2007 excl write-downs
2012F
Note: Mid-point of CAGR range used for absolute revenue projections; assuming constant FX rates; CF&A = Corporate Finance & Advisory Source: Company reports, BCG analysis
9
Asia-Pacific, excluding Japan, should continue growing Spectacular performance in 2007 will be followed by more modest, sustainable gains Asia-Pacific, excluding Japan, investmentbanking revenues, 2006-2012 ($B)
Japanese investment-banking revenues, 2006-2012 ($B)
100
100
CF&A
CF&A
Fixed Income
Fixed Income
Equities
Equities
81
80
80 +11-15%
26 60
60 +12-16%
43
+4-6%
+42%
40
33
13
30
+14%
40
29 5
+10-14%
12 20
+47%
18
20 16
12 7
+80%
12
+11-15%
+5%
32 5
+9%
17
+16%
10
41 7
+6-8%
+3-5%
21
+4-6%
13
22 8
0
0
2006 CAGR
+11%
2007 excl write-downs
2012F
2006
2007 excl write-downs
2012F
Note: Mid-point of CAGR range used for absolute revenue projections; assuming constant FX rates; CF&A = Corporate Finance & Advisory Source: Company reports, BCG analysis
10
Contents Review of 2007 and outlook
2
Overview of fourth quarter 2007 results
11
Market review • Fixed-income and equity trading • Corporate finance and advisory
18 25
Focus: The subprime crisis
33
Data definitions
41
BCG investment banking contacts
43 11
Investment banks were hit hard in the fourth quarter The BCG performance index plummeted in the fourth quarter • On average, revenues of the leading players fell by 170.6 percent from the previous quarter • In a difficult quarter marked by write-downs, several major banks managed to increase revenues – Deutsche Bank, Credit Suisse, JPMorgan, and Lehman The subprime crisis continued to spread • Global capital markets continued to re-price credit risk, resulting in a severe dislocation in structured credit markets. The quarter was characterized by illiquidity in fixed-income markets, lower levels of client activity across fixed-income sectors, and a significant revaluation of mortgage inventories • The most troubled sectors were RMBS, CMBS, CDOs, leveraged loans, and commercial real estate • Subprime-related write-downs could reach as high as $400 billion,1 from around $100 billion today Fixed-income revenues were heavily affected by the downturn Fixed-income and equity trading • Sales and trading revenues were more than 300 percent lower than the previous quarter and 190 percent lower than the same period last year. Fixed-income revenues were adversely affected by writedowns. Revenue from equity-trading activities was 25.5 percent higher than the previous quarter and 24.0 percent higher than the same period last year Corporate finance and advisory • Corporate finance and advisory revenues grew by 23.7 percent over the previous quarter and were 11.7 percent higher than the same quarter last year. Growth in advisory activity and equity underwriting was offset by lower debt underwriting 1. G7 Finance Ministers forecasts, February 2008 Source: BCG analysis
12
Industry performance plummeted BCG Investment Banking Performance Index Index (Q1/01= 100)
242.5
250 172.4 150
133.9
131.5 96.6
50 -50
Q2/04
73.3
95.0
Q4/04
133.5
165.1 119.2
218.3
193.3 135.9
83.5
Q2/05
Q4/05
Q2/06
Q4/06
Q2/07
-9.8 Q4/07
-150 -250 -350 -450 -550
-549.4
-650
2004
2005
2006
2007
Note: The BCG Investment Banking Performance Index is calculated based on aggregate profits of ten leading banks Source: Company reports; BCG analysis
13
Fixed-income and equity-trading volumes decreased, while corporate finance and advisory work was resilient Trading volumes
Corporate finance and advisory volumes
Equity trading
($T)
M&A advisory2
($B)
16
1,000
12
800 600
8
400
4
200 0
0 Q4/04
Q2/05
Q4/05
Q2/06
Q4/06
Q2/07
Q4/04
Q4/07
US bond trading1
($B)
Q2/05
Q2/06
Q4/06
Q2/07
Q4/07
Q2/07
Q4/07
Equity origination
($B)
1,500
Q4/05
100 80
1,000
60 40
500
20 0 Q4/04
0 Q2/05
Q4/05
Q2/06
Q4/06
Q2/07
Q4/07
Asia-Pacific
Q4/04
Americas
Q2/05
Q4/05
Q2/06
Q4/06
EMEA
1. Daily average trading volumes for treasuries, agencies, asset-/mortgage-backed securities (ABS/MBS), and corporate bonds 2. Announced transactions Source: Thomson SDC; World Federation of Exchanges; Federal Reserve Bank of New York; BCG analysis
14
Several players managed to increase revenues Pre-tax profit margins and revenues: Q4 2007 vs Q3 2007 Pre-tax profit margin (%) 60%
GS 50% 40%
LEH
30%
DB
20%
CS
10%
Q4/07 Q3/07
JPM
0% 0.0
1.0
2.0
3.0
4.0
5.0
6.0
7.0
8.0
9.0
10.0
Q3/07 11.0 Ø: -3.8%
-10% -20%
Ø -170.6%
Revenues ($B)
Note: Ø calculated on a revenue-weighted basis; revenue includes investment banking, institutional sales and trading, and principal investments. BSC, Citi, MER, MS, and UBS are not shown Source: Company reports; BCG analysis
15
Revenues of leading banks dropped 140 percent from the same period last year Pre-tax profit margins and revenues: Q4 2007 vs Q4 2006 Pre-tax profit margin (%) 60%
GS
50%
Q4/06 Ø: 38.5%
40%
30%
LEH
20%
DB 10%
Q4/07 Q4/06
CS
JPM 0% 0.0
1.0
2.0
3.0
4.0
5.0
6.0
7.0
8.0
9.0
-10%
Ø -140.2%
Revenues ($B)
Note: Ø calculated on a revenue-weighted basis; revenue includes investment banking, institutional sales and trading, and principal investments. BSC, Citi, MER, MS, and UBS are not shown Source: Company reports; BCG analysis
16
Slight gain in corporate finance and advisory revenues was not enough to offset the drop in trading revenues
Revenues by company: Q4 2007 vs Q4 2006
Total revenues % Change
($B)
($B)
9 46.2
6 3 34.6
0
-19.3
-3
-141.7%
-6 11.6
11.8
4Q06 Total
4Q07 Total
1.2%
-9 -12 -15 -31.1
-189.8%
-18 06 07 GS
06 07 DB
06 07 LEH
06 07 CS
06 07 JPM
06 07 BSC
Corporate finance & advisory revenues
06 07 MS
06 07 UBS
06 07 ML
06 07 Citi
Trading revenues
Note: Not including principal investments and other revenues Source: Company reports; BCG analysis
17
Contents Review of 2007 and outlook
2
Overview of fourth quarter 2007 results
11
Market review • Fixed-income and equity trading • Corporate finance and advisory
18 25
Focus: The subprime crisis
33
Data definitions
41
BCG investment banking contacts
43 18
Equity trading fared better than fixed-income trading Fixed-income trading • Fixed-income markets recorded negative revenue during the fourth quarter – They were nearly 300 percent lower than the same quarter last year as subprimerelated exposure resulted in heavy write-downs – Credit spreads widened during the quarter, reflecting a substantial re-pricing of risk – Revenues from FX, money market, and commodities increased, offsetting the declines in credit products • US bond-trading volumes were 4.0 percent lower than the previous quarter Equity trading • Revenues from equity trading increased 25.5 percent in the fourth quarter and were 24.0 percent higher than they were during the same period last year – Trading volumes dropped by 33 percent in the quarter. Equity markets experienced high volatility – the VIX increased 25 percent in the quarter and was 94.6 percent higher than the same quarter last year
Source: BCG analysis
19
Fixed-income trading
Subprime write-downs eroded fixed-income revenues
US weekly average bond-trading volumes
Fixed-income trading revenues by quarter Index1
($B) 1,400
913
919 954
1,072 956
1,054
1,092
1,108
1,063
1,037
1,070
1,149
1,066
1,277
1,178
300
1,225
148
105 126
166 108
154 116
192 117
163 185
14
232 173
204
-373
200
1,050
100
700 0
350 (100)
(400)
0 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2004 Treasury/Agencies
2005
2006 MBS/ABS
Corp Bonds
2007
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2004
2005
2006
2007
Total
1. Q1/02 = 100 Note: Daily average trading volumes with inter/dealer brokers and others; aggregated trading revenues for ten leading investment banks surveyed Source: Federal Reserve Bank of New York; BCG analysis
20
Fixed-income trading
Yield curve is becoming steeper US ten-year/two-year treasury yield spread Basis points 300
200
100
0
(100)
Dec-97
Dec-98
Dec-99
Dec-00
Dec-01
Dec-02
Dec-03
Dec-04
Dec-05
Dec-06
Dec-07
Source: Bloomberg
21
Equity trading
Equity-trading volumes fell but revenues increased
Global-exchange trading volumes
Equity-trading revenue by quarter Index1
($T) 11.3
30
9.2 10.5
12.3 11.2
12.8 12.1
17.6 13.8
15.5 18.7
22.1 18.2
27.0 25.0
126 18.1
300
25
250
20
200
15
150
10
100
5
50
0
89 101
137 111
155 112
226 141
153 186
286 195
193 275
242
0
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2004 Americas
2005 Asia-Pacific
2006 EMEA
2007
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2004
2005
2006
2007
Global
1. Q1/02 = 100 Note: Trading volumes single counted, includes investment funds traded at exchanges; aggregated trading revenues for ten leading investment banks surveyed Source: Federal Reserve Bank of New York; BCG analysis
22
Equity trading
The crisis affected equity markets
Development of main equity indices
Percentage change in equity indices (%)
Index1
6
180
4.2
4.1
4
150 2 S&P 500
0.2
0
120
-2
FTSE 100
90 -4
-3.2
Nikkei 225
-6
60
-8
30 -10
-11.1
-12
0 Q4 1997
-8.8
Q4 1998
Q4 1999
Q4 2000
Q4 2001
Q4 2002
Q4 2003
Q4 2004
Q4 2005
Q4 2006
Q4 2007
Q4/07 Change
S&P 500
Q4/07 versus Q4/06
Nikkei 225
FTSE 100
1. September 1997 = 100 Source: Bloomberg, BCG analysis
23
Equity trading
Market volatility was up significantly compared with the same period last year
Market volatility index (VIX)
Percentage change in VIX
Index
(%)
50
100
40
80
30
60
20
40
94.6
25.0
10
20
0
0
Q4 1997
Q4 1998
Q4 1999
Q4 2000
Q4 2001
Q4 2002
Q4 2003
Q4 2004
Q4 2005
Q4 2006
Q4 2007
Q4/07 Change
Q4/07 versus Q4/06
Source: Bloomberg
24
Contents Review of 2007 and outlook
2
Overview of fourth quarter 2007 results
11
Market review • Fixed-income and equity trading • Corporate finance and advisory
18 25
Focus: The subprime crisis
33
Data definitions
41
BCG investment banking contacts
43 25
Despite the market turmoil, advisory and equity-origination activity increased in the fourth quarter Advisory • M&A activity increased 35.1 percent over the previous quarter, and was 20.4 percent higher than the same period last year – Driven by a strong backlog of announced deals – Current M&A activity, and therefore growth forecast for 2008, is significantly lower – Morgan Stanley had the highest share in both Americas and EMEA Corporate Finance • Equity origination was 47.9 percent higher than the previous quarter – Underwriting increased in all three regions, with EMEA and Americas rising by 131.9 percent and 41.0 percent respectively • Debt origination dropped significantly during the quarter, reflecting declines in leveraged finance and mortgage-related activity – Bond issuance was 14.1 percent lower than the previous quarter and 46.1 percent lower than the same period last year – Corporate bond issuance increased by 41.9 percent over the previous quarter
Source: BCG analysis
26
Advisory
The deal backlog from previous quarters fueled growth in effective M&A deals
Effective M&A deals ($B) 1,400
255
495 425
390 465
722 480
734 729
Percentage change in M&A deals
708 650
874 962
(%)
875 943
1,158
80 72
1,200 134 1,000 91 86
800
549 496
400
54
35 241 200 112
75 329 326 376
76 57 43
47
122
74 93
600
125 570
91 123 86
60
41
40
464
311
471 21
321 20
194 250 267 181
323 322 291 353 307 280 273 264 235 211 169 141 166 108 130
10
454
0
4
0 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2004
EMEA
2005
Americas
2006
Asia-Pacific
Q4/07 versus Q3/07
Q4/07 versus Q4/06
2007
Global
EMEA
Americas
Asia-Pacific
Total
Source: Thomson SDC; BCG analysis
27
Advisory
Morgan Stanley had the highest share of advisory services in both the Americas and EMEA
Share of Americas M&A
Share of EMEA M&A Relative market position Q4/07 (%)
Relative market position Q4/07 (%) 100
MS
100
MS GS
Gained share
Citi
Gained share MER
80
80
GS
UBS CS
Citi
JPM DB
60
60
MER
CS
JPM LEH
LEH
40
40 DB UBS
20
20
BSC
Lost share
Lost share BSC
0
0 0
20
40
60
80
100
Relative market position Q4/06 (%)
0
20
40
60
80
100
Relative market position Q4/06 (%)
Note: Market position expressed relative to market leader Source: Thomson SDC; BCG analysis
28
Corporate finance
Equity underwriting had a strong finish to the year
Equity issuance
Percentage change in equity issuance
($B) 119
250
88 90
104 127
125 93
128 148
112 149
147 226
(%)
149 231
220
140
132
120
200
71
100
76
94
80
150 60
31 100
70
40
38
39
43 50
26
25 43 32
38 38 29
32
55
43
46
53
43
41
40
49
30 50 37 44
40
20
49
48 28
43 95
77
31
61
39
29 22
43 66
51
52
50 45
9
9
10
0
84
54 36
0
(20) -19
(40)
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2004
EMEA
2005
Americas
2006
Asia-Pacific
Q4/07 versus Q3/07
Q4/07 versus Q4/06
2007
Global
EMEA
Americas
Asia-Pacific
Total
Source: Thomson SDC; BCG analysis
29
Corporate finance
Deutsche Bank performed well in EMEA, while Credit Suisse made strong gains in the Americas
Share of Americas equity capital markets
Share of EMEA equity capital markets
Relative market position Q4/07 (%)
Relative market position Q4/07 (%)
100
CS Gained share
100
DB
Gained share
MER UBS GS
JPM MS
75
75
Citi JPM
Citi LEH
UBS
GS
50
50
CS
MS
MER
DB
25
25 BSC LEH Lost share
Lost share
BSC
0
0 0
20
40
60
80
100
Relative market position Q4/06 (%)
0
20
40
60
80
100
Relative market position Q4/06 (%)
Note: Market position expressed relative to market leader Source: Thomson SDC; BCG analysis
30
Corporate finance
Turmoil in credit markets dampened total bond issuance, but corporate bond issuance increased
Issuance of all bonds
Issuance of corporate bonds
($T)
($T) 1,430
2,500
1,165
1,147
1,500
1,150
1,287
1,504
1,736
1,453
1,517
1,669
2,007
1,863
1,168
2,111
1,004
116 129
121 131
114 140
177 127
146 169
187 209
139 261
250
132
2,000
132
300
197
32
111 125 110
1,500
86 100
87
200
107 107
97 100 991
85 83 69 1,000
812 857
804
898
19
1,0791,209 1,014
150 80
1,002 913
17 20
111 705
77 59
569 500 539
380 332 355
602 547
725 817 771 635 560 498 457 383 324 313
0
19 82
69
62
20 23
93
30
22 136
24 22
25
17 20
100
874
681 749 726
23
119
24 103
82
114
66
66
57
80
60
50
93 38
51
28 32
41 49 31
65 63 58 67 50
62 35
53
0 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2004
2005
2006
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4
2007
EMEA
2004
Americas
Asia-Pacific
2005
2006
2007
Global
Note: Corporate bonds for industrial issuers only; global figures may differ from the sum of sub-totals due to rounding Source: Thomson SDC; BCG analysis
31
Corporate finance
Deutsche Bank took the top position in bond underwriting in EMEA
Share of Americas bond underwriting
Share of EMEA bond underwriting
Relative market position Q4/07 (%)
Relative market position Q4/07 (%) Citi
100
100
JPM
DB
Gained share
Gained share
80
LEH
MER
80
MS
Citi
DB
60
60
GS CS
BSC
40
MER CS
MS
40
UBS
JPM
UBS GS
LEH
20
20 Lost share
Lost share BSC
0
0 0
20
40
60
80
100
Relative market position Q4/06 (%)
0
20
40
60
80
100
Relative market position Q4/06 (%)
Note: Market position expressed relative to market leader; Barclays Capital was leader in Q4/06 in EMEA Source: Thomson SDC; BCG analysis
32
Contents Review of 2007 and outlook
2
Overview of fourth quarter 2007 results
11
Market review • Fixed-income and equity trading • Corporate finance and advisory
18 25
Focus: The subprime crisis
33
Data definitions
41
BCG investment banking contacts
43 33
The global credit crisis reshaped capital markets in 2007 US
Non-US
Global Central banks inject liquidity, ECB ($300B), US Fed ($38B), Banks of Japan, Canada, Australia ($15B)
Other financial activities
HSBC US consumer finance arm increases bad debt provisions to $10B, with more expected
Investment and retail activities Ownit bankrupt
2007
Events
Jan From late 2006 higher interest rates, expiring 'teaser' rates and slow house price growth leads to higher level of defaults
Source: Press, BCG analysis
ResMAE and MLN bankrupt
Feb
Mar
UBS folds in house hedge fund
Two Bear Stearns Funds ($10B) liquidated; hedge funds liquidated (US, UK and Aus)
Novastar and New Century Financial bankrupt
Kensington Group reports firsthalf losses £10B
Apr
Spread blow WSJ reports out at low major banks end of ABX are demanding Index — mortgage worldwide originators buy stock index back defaulting falls by 6% loans in a week
May
Jun
IKB bail out €10.3B Saschen LB bail out €17.3B
AIG write down $550M
Swiss Re writedown $1B AIG write down further $600M
$23.6B write- $20.4B writedowns downs announced announced including including Merrill Citi, Morgan Lynch, UBS, Stanley, Credit HSBC Suisse, JP Morgan
Countrywide bailout $2B Northern American Rock bail Home out Mortgage ~$114B bankrupt
Jul
Late S&P/Moody's payments downgrade on subprime thousands of mortgages MBS (valued reported at at $17B) — 14%, up this leads to from 5.4% a selling in 2005 frenzy
Aug
Sep
Interbank overnight lending rates increase sharply and stay high through December
Coordinated liquidity injection US Fed, ECB, BOE, Canada and Switz of $87B; ECB injects further $500B $72.2B writedowns including UBS, Morgan Stanley, Lehman & Merrill
Delta Financial bankrupt
Oct
S&P and Moody's downgrade 1,000s more MBS valued at $100B
Nov Foreclosures on 2006 mortgages predicted to continue rising through 2008
Dec/Jan Increasing number of announced write-downs by major banks (~$120B in total for top 100 banks) 34
The roots of the crisis are now well understood Global capital surplus
Expanding access to credit U.S. Mortgage Origination and Securitization By Product ($B)
Contributors to excess liquidity
Index: Ratio 140 of aggregated money supply 130 to nominal GDP 120 (Q1 1983 = 100)
2001
Other countries
Japan 23%
2005
$2,100
% 100
$3,120
100
EMU 32% 80
80
UK 9% US 9%
110
33%
60
China 32%
45%
60
100%
100%
India 4% 40
40
63%
100
US
90
45%
20
36%
0
36%
0
0
80
55%
20
36%
500
FHA/VA
1000
Conforming
1983 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 Ginnie Mae
Private Conduit
Fannie Mae
Unsecuritized
1500
2000 $B
0
500
FHA/VA
Jumbo Sub-Prime Alt-A
1000
1500
Conforming
2000
Jumbo
2500
3000
Sub-Prime Alt-A
65% CAGR from ~5% to ~30% of the market
Freddie Mac
65% CAGR
Risky securitization
Non-transparent risk concentration
Global CDOs
Volumes ($B)
Investors want cash back Corporates
Market Value Synthetic funded
120
Loans to Private Equity
160
stops or reduces financing
interest, amortization
sells CDO (containing many loans and refinanced in many tranches)
buys based on debt funding Private Equity funds
pays fees
stops or reduces financing
40
Q1 '04
Q2 '04
Q3 '04
Source: SIFMA, UniCredit
Q4 '04
Q1 '05
Q2 '05
Q3 '05
Q4 '05
Q1 '06
Q2 '06
Q3 '06
Q4 '06
Suprime crisis
0
sells CDO and MBS with discount
sells loans with discount
finalizes
Bank Mortgage Loans
Cash flow and hybrid
CDO Manager, HedgeFunds
sells loans (for RWA reduction)
buys loans
80
Hedge funds, tradition. funds, insurer
sells mortgages
buys mortgages interest, amortization
MBS2Manager
Home owner
sells MBS (containing many loans and refinanced in many tranches)
Claims
House owner can no longer pay interest on their mortgages
Increase of nervousness Ratings for MBS deteriorate, prices fall
Loss of assets
Cycle of PE and mortgage financing disturbed and disrupted
Risk acquisition by banks 35
The crisis has spread beyond the mortgage market Massive deterioration in price of subprime ABS — dry-out of 2nd markets
Spill-over to subinvestment-grade corporate bonds ...
(%)
... and investment-grade corporate and — in particular — bank bonds %
bps
bps
70
100
Flight to quality and mistrust of interbank money markets
39 bps
5.0 4.74
AAA
60
400
80 AA
4.5
3M Euribor
50
-78%
40 A
300
30 Itraxx Europe3
BBB-
200
10
Itraxx senior financials4
0
0.82 Gap
0.5
Gap
72 bps
Jan Feb Mar Apr May Jun Jul Aug Sept Oct Nov
0.0
Jan Feb Mar Apr May Jun Jul Aug Sept Oct Nov
Jan Feb Mar Apr May Jun Jul Aug Sept Oct Nov
0
2007
3M Euro Govt bonds yield
20
BBB
20
49 bps
159 bps
ABX1: Price index for US subprime securitizations
3.92
4.0
2007
2007
Jan Feb Mar Apr May Jun Jul Aug Sept Oct Nov
60
40
Itraxx crossover2 for sub-investment grade CDS
2007
1. ABX Index contains a series of credit-default swaps (CDS) based on 20 bonds that consist of subprime mortgages 2. iTraxx crossover index consists of 45 sub-investment grade CDS 3. iTraxx Europe consists of 125 most liquid European 5Y-CDS with investment grade rating 4. iTraxx Senior Financial Europe consists of 5Y-CDS insuring senior debt of 25 European financial companies Note: Credit default swaps are synthetic derivative instruments used to transfer credit risk. The price of CDS can be used as a proxy for the price of credit risk associated with the particular rating/company Source: BCG analysis
36
In 2007, some players incurred losses that eclipsed their profits from 2006 Major bank write-downs1 (selection) compared to 2006 profits ($B) 25 21 22
21 19
20
18 15 12
11
11 10
10 8
10
8 6
6
6
5
5
4
5 3
4
3
3
3
2
3
3
4
3
2
2
0
1
HBOS
Lehman Bros
Goldman Sachs
Credit Suisse
RBS
IKB
Bear Stearns
JP Morgan
Deutsche
Barclays
Credit Agricole
BofA
Morgan Stanley
UBS
Merrill
Citi
0
Write-downs 2006 profit 1. As of January 2008 Source: Financial Times, Wirtschaftswoche, Thomson Financial, Datastream, FAZ-Archiv, Financial News
37
The crisis corrected widely held perspectives about credit markets
Key insights Limited loss experience for newer types of credit Weak credit analysis across the mortgage value chain Excessive credit-risk concentration on bank balance sheets Absence of obvious 'natural long' for certain types of credit risk
Implications Short-term • Ongoing liquidity concerns and risk aversion • Focus on risk sizing and price transparency • Business scale and scope rationalization • Selective acquisitions of assets and franchises Long-term • Appropriate risk pricing • Improved risk distribution • Sustained market consolidation • Increased capital/leverage constraints on regulated entities (eg, banks, insurers)
Participant responses Originators • Cost and complexity reduction • Continued consolidation • Enhanced risk and balancesheet quality focus Investment banks • Securitization capacity rationalization • Business model review – Business diversification – Value-chain integration – Agency versus proprietary • Risk management focus Investors • Prepare to weather credit cycles • Investment to upgrade credit-analysis capability
Source: BCG analysis
38
Total shareholder return (TSR) analysis clearly shows the value of business diversification and risk management Challenged players
Business model (no. of banks)
Advantaged players
Investment banking (8) 17 (34) (8)
Most US-based IBs with significant exposure to subprime ABS
Universal banks in developed economies exposed to subprime losses either from their retail activities, wholesale funding, or both
The few IBs who successfully hedged subprime exposure
Diversified universal banks not highly dependent on US capital markets and with significant presence in emerging markets, eg, Turkey, Brazil
Universal (59) (42)
118 (1)
Mortgage banks with significant exposure to subprime origination in the US, and banks that financed mortgages through short-term funding (eg, Northern Rock in the UK)
(89)
In general, non-diversified players with significant exposure to subprime origination or securitization
(89)
Retail/commercial (59) 142 5
Total (126)
(150)
(100)
142
0
(50)
0
50
100
150
1 yr TSR (Nov 06–07) (%)
Diversified retail banks whose domestic markets are evolving rapidly and are in an early stage of development; eg, China, Eastern Europe, Brazil In general, diversified players with exposure to emerging markets, and those who successfully manage risks Min/max Weighted average1
1. Average market cap Nov 06-07 Note: Analysis of top 100 publicly listed banks by market cap, total assets and tier one capital; Excludes ABN AMRO due to acquisition activity; Banks classified based on predominant business model Source: Datastream; BCG analysis
39
Securitization can rebound, provided the industry resolves key structural issues
Logic for ongoing securitization Balance-sheet constraints of originators and banks Regulatory incentives favouring securitization Availability of investor capital once market confidence is restored Investor sophistication and tailored-asset needs
Structural issues to be resolved How should the system ensure adequate credit and price discipline across the value chain, including origination, securitization, and investing? Along the value chain, whose balance sheet represents the 'natural long' position for the risk exposure associated with credit instruments? How should banks prevent excessive risk concentration given internal return expectations and ongoing risk acquisition from client transactions?
Source: BCG analysis
40
Contents Review of 2007 and outlook
2
Overview of fourth quarter 2007 results
11
Market review • Fixed-income and equity trading • Corporate finance and advisory
18 25
Focus: The subprime crisis
33
Data definitions
41
BCG investment banking contacts
43 41
Data definition overview • Regional deal allocation is based on issuer’s country (parent issuer’s country, where available); M&A deals are allocated by target nation • Thomson SDC was used for capital-market data • Relative market shares are based on bookrunner league tables • Equity capital markets data include common stock IPOs and secondary issues only • Data on bond origination contain all convertible and nonconvertible bonds, including ABS, MBS, municipals, agency, and corporate bonds • Corporate bonds are limited to industrials and utilities, excluding financial services issuers
42
Contents Review of 2007 and outlook
2
Overview of fourth quarter 2007 results
11
Market review • Fixed-income and equity trading • Corporate finance and advisory
18 25
Focus: The subprime crisis
33
Data definitions
41
BCG investment banking contacts
43 43
BCG investment banking contacts Achim Schwetlick Partner and Managing Director New York +1 212 446 2800 [email protected]
Robert Grübner Partner and Managing Director Hamburg +49 40 30 99 60 [email protected]
Ranu Dayal Partner and Managing Director Singapore +65 6429 2500 [email protected]
Shubh Saumya Partner and Managing Director New York +1 212 446 2800 [email protected]
For questions regarding methodology and analyses, please contact: Anthony Cheong New York +1 212 446 2800 [email protected]
Josh Ellstein New York +1 212 446 2800 [email protected]
44
