Fears continue to build over whether our largest financial companies are too big to fail … or manage … or regulate … or, as our editor-in-chief put it last week, too big to behave.
It's a serious issue that frankly the largest institutions are doing too little to address — at least publicly.
But behind the scenes, the entire system is getting safer as the largest banks refocus on their strengths and dump businesses that don't fit the future they see for themselves. These narrower, but not necessarily smaller, banks should be easier to manage and to oversee.
This is not a given by any means. The trend is still in its infancy, and much will depend on execution, but experts say it will intensify over the next two to three years and should result in a more stable, less risky financial industry.
"Large banks are deleveraging and deciding which businesses they want to be in and which businesses they don't want to be in," says Bob Contri, a principal with Deloitte Consulting who leads the firm's financial services practice. "Banks are going back to their core."
Brian Stephens, national leader of KPMG's banking and capital markets practice, agrees.
"Banks are re-examining their business models, taking a hard strategic look at what their businesses are, who their customers are, what the channels are through which they reach those customers," he says. "That is going on across the industry."
John Garabedian, senior partner at Boston Consulting Group, says the banks that are already on offense may be the big winners. To illustrate his point, Garabedian cites PNC's sale of its asset servicing unit to BNY Mellon.
"PNC actually had a very strong asset servicing business, but they said, 'Do we want to invest to be one of the biggest and best in the world at this? No.' So they sold that to BNY Mellon and that really frees them up now to reinvest those dollars to gain share in retail banking through investing in new products, better customer service and digital banking," Garabedian says.
Folks like Contri, Stephens and Garabedian get paid to help banks, including the behemoths, plot and execute strategy. They help executives figure out what businesses and geographies to be in, which customer segments to pursue, which technologies to adopt, how to leverage their brands and take advantage of scale or expertise.
It's hardly a surprise that many banks spent much of the last few years hunkered down, just trying to get a grip on regulatory demands and stay out of trouble (some more successfully than others).
But they are ready now, given a slightly clearer picture on capital requirements, to make decisions about where to take their franchises. And the future isn't broader — it's narrower.
"The days of institutions trying to be all things to all people are basically over," Contri says. "They just can't afford it. They can't afford it from a capital standpoint, they can't afford from a liquidity standpoint, they can't afford it from an efficiency standpoint.
"Even the largest institutions are going to have to be much more disciplined and much truer to their strategic focus, and just not as stretched across a lot of different businesses and across a lot of different geographies."
This trend isn't so much about getting smaller; barring a legislative mandate to break them up, we will always have huge banks in this country. It is more about narrowing a firm's focus so it can do fewer things better.
"Banks are absolutely laser focused on streamlining their organizations, getting much better at serving their customers and delivering the kind of products that their customers need and ultimately that will translate into a profitable arrangement for the bank," Stephens says. "That's why I think it's all good news that banks are going through this painful, not particularly pretty, transformation.
"Remember, we are coming from a place where banks were all things to all people in many respects. We now realize that is not a sustainable model."
Citigroup realized this first, mostly out of necessity. But it deserves credit for deciding in 2009 that it would cleave off huge, noncore businesses into Citi Holdings. Everything from its investment in Morgan Stanley Smith Barney to its consumer finance arm was put on the block.
Bank of America followed suit. Last November, after announcing the company was selling its stake in China Construction Bank Corp. and its Canadian credit card business, Chief Executive Brian Moynihan said, "Our strategy is clear: We have been transforming the company to deliver the franchise to our core customer groups … an international consumer card business under another brand is not consistent with that strategy."
With fewer financial problems there is less pressure on Wells Fargo and JPMorgan Chase, but they too, as well as many of the large banks just below this top tier, are rethinking their strategies in light of new regulations and competitive realities.
"There is going to be a very significant volume of carveouts, spinoffs and divestiture-type transactions," Contri says. "The next two years will be a moving chessboard of banks re-establishing their position and shedding businesses.
"I think we emerge out of that in two or three years, maybe four years, with a very different, interesting landscape. We'll have more specialized players that are more efficient and better at deploying capital and better at managing risk in the businesses that they decide to focus on strategically.
"We will have fewer banks that are really spread broadly across the landscape."
Not every bank will succeed.
"It is very clear that this is the period of time when winners and losers will shake out," Garabedian says. "It is also clear that there are certain institutions that are still caught in crisis mode."
Those banks may lose market share, talent and ultimately "control over their destiny."
But Garabedian agreed the end result will be a stronger financial system.
"The move by banks to focus more on their core areas of strength is a good thing and will make them better and safer," he says. "The stronger balance sheets and higher capital requirements will also make the individual banks and the sector safer."
Contri expects "more efficient and profitable institutions" will result — "institutions that are better at the markets and products that they serve and therefore deliver more innovation and better customer service."
"Risk management will improve because banks will understand their markets better and they will understand the businesses that they are in better because they are more focused strategically on businesses that they really know how to make money in," Contri says.
Stephens notes the industry got into trouble because banks "took on too many differentiated things that they weren't necessarily that great at."
So this refocusing should result in "more streamlined organizations that are much more focused on their customers, their products and, very importantly, how they risk-manage those products."
"You will have more focused institutions that are truer to their strategy, that are aligned in businesses where they are best conditioned to make money and manage risk and serve customers," he says. "That will make stronger institutions, and frankly lower systemic risk, which I think will make the industry more attractive to investors."
If they are right, these changes could make the system significantly safer. Isn't it about time we start thinking constructively about the industry's future?