Commercial banks are beginning to pose a challenge to investment banking and brokerage firms, according to a recent report by Moody's Investors Service.
"Banks are a competitive threat in some limited but important areas" such as underwriting of investment grade bonds, junk bonds, and asset- backed securities, wrote Haig Nargesian, a vice president and senior credit analyst at Moody's.
The report, which indicated that the competition was beginning to cut into profits, was underscored by Monday's announcement that Banker's Trust New York Corp.-already strong in junk bond underwriting-has reached an agreement to buy Alex. Brown & Sons, a firm noted for its equity underwriting prowess.
"The Alex. Brown acquisition is a pure play," said Ryan O'Connell, a vice president and senior credit analyst at Moody's, who noted that Banker's Trust has ranked seventh among junk bond underwriters for several years. "The missing link was that they did not have any equity expertise."
So far, banks are mostly sticking to debt underwriting-and making notable inroads, according to the report. Banker's Trust, J.P. Morgan & Co., Chase Manhattan Corp., and NationsBank Corp. captured a combined market share of 17% in 1996.
To be sure, some market observers said that it appears as if NationsBank is moving out of the business. In the last month, a flood of high profile fixed-income executives and bond-underwriting experts have left the company and taken up with other banks looking to grab a piece of the debt- underwriting action.
One analyst who declined to be identified attributed NationsBank's retreat to the high cost of maintaining a presence in underwriting. "Debt underwriting absorbs a lot of capital and you have to be in it in a big way-you can't be half in or half out-in order to make a significant contribution," this analyst said.
"NationsBank's strategy to move away from it will be positive on earnings and enables them to focus on their core franchise and their merger with Boatmen's" Bancshares.
Despite the challenges, however, First Union Corp. and SunTrust Inc. are also making strides into the business. Many former NationsBanc Capital Securities professionals have landed jobs at both companies.
Banks are using their business relationships in corporate lending and expertise in sales and trading to help build market share. They are also taking advantage of the crumbling Glass-Steagall Act-which once prevented banks from entering investment bank activities.
Mr. O'Connell noted that banking regulators recently lifted the limit on revenue that a subsidiary can derive from underwriting to 25% from 10% of total revenue. The change "gives banks a great deal more leeway to expand their investment banking operations," he said.
According to Moody's, margins for brokerage firms have steadily declined as banks have pushed into the business.
Bank bond analyst Eric J. Grubelich of Keefe, Bruyette & Woods said that some banks may be underpricing their fees "because they know that they will make it up with other banking relationships or services that they provide to their customers."
This was one way NationsBank was able to get into the business, other sources said.
According to Moody's, fees for underwriting asset-backed securities fell to 0.31% of debt issued in 1996 from 0.33% in 1995; high-yield debt underwriting fees fell to 2.31% from 2.37%.
One brokerage analyst said that banks are focusing on the less profitable parts of the business because those are the parts that investment banks are least likely to defend aggressively.
Analysts also noted that investment banks are defending themselves by taking the offensive: Several have made inroads into syndicated lending, where prices also have been forced down.
And some remain dubious about the success that banks have made in debt underwriting so far:
"Debt underwriting is not the easiest business to get into," said bank bond analyst Thomas Flynn of Morgan Stanley & Co. "You cannot point to any bank being successful in this business ... . Many have tried to buy talent, but you need more than talent, you need atmosphere and culture."
