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CommentMarch 1 2012

Global banks go back to basics

Investors appear to have lost confidence in diversified cross-border banking models, forcing banks to decide what they do best.
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The revival in the market for bank senior debt following the European Central Bank’s latest liquidity injection may only have disguised a deeper trend. Beneath the rally, there seems to be a general loss of confidence among investors in the idea of large cross-border banks as a diversified play on the global real economy.

Specialist credit funds buying assets ranging from commercial real estate loans through to high-yield bonds are seeing substantial inflows. European pension and insurance giants are following the example of their US and Japanese peers and beginning to step up their own direct lending and debt origination desks.

In short, the major asset managers in many cases seem to feel they would prefer to build their own diversified credit portfolio, instead of buying bank debt and trusting the bank manager to build the portfolio for them. That is a daunting prospect for the banks.

But it could have a positive outcome. If banks are no longer able to borrow money from the markets without investors first staging a forensic examination of their business and geographic mix, then chief executives will have to carry out the same examination. This means no more of the under-managed, breakneck and frequently incoherent growth seen in the boom years.

The Nordic banks that currently enjoy some of the best funding costs in Europe are favoured by investors for sticking to their local mortgage and corporate lending activities. Second-tier banks may need to stop dabbling in more exotic markets or investment banking activities. And even the top 10 global banks cannot all enjoy “flow monster” volumes on every trading desk – they will need to concentrate their staff and technology firepower to score a win in their chosen speciality. The cost of capital will trump internal empire-building, as banks retreat to activities where they have a clear competitive advantage and good rates of return. Narrow banking and regional banking are back in fashion.

Which should all serve as a warning for managers in some of the most profitable banking markets such as China, Brazil or Turkey. Today, they are the flavour of the month, and bullish investors are encouraging these post-crisis winners to begin using their surplus capital to expand into markets and activities from which the under-pressure global players are retreating. But tomorrow, the same investors may be nagging the new leaders to return to their core business.

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