consolidation, and belt-tightening than U.S. bankers. But having faced these pressures, they now are in the enviable position of running the leanest, meanest, best-capitalized, and most innovative group of banks in the world. One of the key developments in U.S. banking has been a willingness to consider fee-based services that are related to the core businesses of lending, cashiering, securities processing, and trust services. Another has been the move to outsource functions that are not core competencies. While it is within the core competency of all banks to manage risk, the opportunities to use even some of the many markets and strategies involved in investing and trading globally are not. So a few banks have begun to outsource these functions. Why? "Better quality, broader access, no set-up costs, and cheaper maintenance," said Charles Horn, a lawyer with Mayer, Brown & Platt in Washington, D.C., who specializes in regulatory and capital markets issues for financial institutions. "Our experience is that this works very well," said Peter Wild, deputy general manager for Bank Julius Baer in New York, which outsources traders. "It makes sense because most investment managers can't compete with Jeremy Grantham at Grantham Mayo Van Otterlo or Nicholas Carn at Draycott Partners," said Kenneth Landis, a partner with Coopers & Lybrand Consulting's financial services practice in New York, referring to two well-known international investment managers. "Outsourcing gets you the world's best talent." Outsourcing also affords a broader access that modern portfolio theory says is critical to consistent profitability in investments. Few if any banks can diversify their clients and themselves among all global markets and all trading methods. "As I studied various trading groups and their styles, I came to realize that diversification is the most important reason for banks to outsource traders," said S. Waite Rawls, who has supervised this activity for Continental Bank in Chicago. He is now with Ferrell Capital Management, a Greenwich, Conn., trading and risk management firm. Looking at expenses, systems operations experts offer broad quotes of $10 million to $20 million to set up global trading rooms. These are front- end expenses that normally take several quarters of trading earnings to defer. Outsourcing requires only supervision, which can be complex but is cheaper. Maintenance costs are relatively cheap. Outsourced traders must be supervised by a bank's risk managers. Admittedly, this is an expense but it is a small, incremental one given that banks already have financial risk management strategies and managers in place. There are there are three problems. First, "You must be sure to make money," said Mr. Wild, chuckling. The second problem is suitability. "I personally think it is a good idea," Mr. Horn said. But he cautions that before starting, there are a number of issues banks need to consider: regulatory oversight; which instruments may require managers; and matching the sophistication of a bank's risk management system to the instruments its outsourced traders use. In January, the American Banker reported that First Union Corp. had begun to outsource traders for all of the above reasons. John Evans Jr., managing director of trading and sales, said that First Union has stopped outsourcing for the time being. "We thought that we would spend our money trying to find the right people (in the bank) to do it ourselves," he said. Does he think outsourcing is a bad idea? "Not at all," Mr. Evans said. "We may take it up again sometime in the future." The third problem is that the present upheaval in bank consolidations and a growing antipathy toward trading as a legitimate business venture is causing some people to be reluctant to discuss this development publicly. Industry sources have reported that Bank of America, Bank of Montreal, Bankers Trust, Citibank, Chase Manhattan, Chemical, and J.P. Morgan either have outsourced or currently are outsourcing traders. Some of these banks said they didn't outsource or declined to comment. Yet many more bank trust departments commit their clients' money to mutual funds - which is also outsourcing. "It may be a sign of the times when some banks refuse to own up to something they are doing that is absolutely right," Mr. Rawls noted wryly. "From time to time, Wachovia has subscribed to these services and we are doing so now," said Richard Roberts, treasurer and executive vice president of Wachovia Corp. in Winston-Salem, N.C. There are at least two reason for this. "It gives us insight into what strategies other professionals are employing," he said. It also helps the bank stay abreast of developments in risk management techniques because Wachovia can compare their risk management techniques with those used by others. "We think these comparisons yield valuable insights," he said. Many bankers are reluctant to comment. "This is a devolving situation," Mr. Horn said. Outsourcing is coming from a succession of ideas replacing traditional attitudes that discourage banks from outsourcing any portfolio's management because it might be construed as an imprudent delegation of an essential bank management function. But the need for global diversification, the expense of access to global markets and talent, and the ability to manage risk make outsourcing traders a sound strategy for banks that may gain acceptance as it becomes better understood.
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