Bank brokerage revenues' second-quarter decline and the low expectations for third-quarter annuity and mutual fund sales reports have some analysts concerned.
Structural changes in the mutual fund business forced by the Securities and Exchange Commission's move to tighten regulations in the wake of the trading scandals appear to favor fee-based products like managed accounts that banks have been slow to adapt to, the analysts said.
Investment sales production declined 7% in the second quarter, according to a Bank Insurance and Securities Association report. Monthly gross revenue per rep at banks declined from $25,604 in the first quarter to $23,806.
Kenneth Kehrer, the president of the Kenneth Kehrer Associates consulting firm in Princeton, N.J., which prepared the report, said the second-quarter "snag" might be a bad indicator because this quarter normally is strong, year over year, for investment product sales.
"Naturally banks couldn't keep the pace of investment sales going at th[e] level" of the preceding 12 months, he said. "This decline isn't a cause for concern unless it goes on for another quarter." But prospects for the third-quarter sales-production reports are not strong, Mr. Kehrer said.
"One thing that has helped investment sales hold up for the past several quarters has been annuity sales," he said. "Sometimes it is variable, sometimes it is fixed, but that just isn't the case right now. Variable sales have been flat for three months, and at the same time we are seeing a slowdown in fixed annuity sales because of a flattening yield curve. And the stock market has made mutual funds less attractive."
Analysts said profit margins are continuing to decline in the third quarter as the cost of complying with the new SEC regulations begins to affect brokerage units.
Financial Research Corp. has said the regulations can be expected to impose an aggregate 14% increase in expenses on the fund industry and to trim revenues by 10%. These changes in the industry's revenue and cost structures would have reduced the industry's $12.7 billion aggregate profit in 2003 to $6 billion, the Boston research company said.
"These reforms will speed up the process of change that is going on in the industry," said Art McPherson, an editor at Financial Research. "The margin squeeze has been there. These reforms are just tightening the vise a little more rapidly. When the money gets tighter it is hard to try a new fund, it is hard to hire, and you have to look closely at the money you spend."
Mr. Kehrer said the new regulations could potentially impinge on investment products sales, particularly annuities and mutual funds. "The market remains king," he added, however. "I don't think the scandals will keep people from investing if the market roars back."
Kevin Daniels, a Boston analyst, said sales of managed accounts and other fee-based products have grown as mutual funds and annuities sales have declined.
TowerGroup, a research company in Cambridge, Mass., has projected a compound annual growth rate of 22.6% in managed accounts, to $1.1 trillion of assets by 2007. The company had predicted the managed account asset total would reach $458 billion by yearend, but assets have already topped $500 billion.
Mr. Kehrer said wire houses continue to dominate the managed account market, with more than a 70% market share. Most banks have had a difficult time adapting to a fee-based culture, he said.
"It is hard for financial advisers in banks to postpone income in order to build a managed account business," Mr. Kehrer said. "A typical mutual fund has an overall commission of 3.5% to 3.7%, whereas the typical managed account is 1.25% to 1.5%, and the financial adviser gets a third of that in his paycheck. Yes, over time you will get more from a managed account, but it is hard to justify that right away when you don't own the customer."
Despite difficult market conditions and a slow adaptation to selling fee-based products, he said, banks are still expanding their investment product capabilities. They are still hiring brokers or expanding product platforms.
"This is just one step down after heavy growth over the past year. Any step backward is disappointing, but banks are not giving up," Mr. Kehrer said.
Broker production among financial advisers declined in the second quarter to $22,029, from $23,840 in the first quarter. This was the first drop in bank advisers' productivity since the fourth quarter of last year. Production by platform reps was flat, $1,764 in the first quarter and $1,777 in the second.
The BISA survey said profit margins declined to 31%, from 32% in the first quarter and 37% in the second quarter of 2003.
