Banks could destabilize the securities industry by pushing too hard for profits from the investment banking firms they have been snapping up, say analysts at Standard & Poor's Corp.
In a report set to be released today, the debt rating agency argues that commercial banks' entry into the securities business "is creating a situation of too many dollars chasing too few economically feasible deals."
That could lead to irrational pricing, S&P analysts say, and prove unsettling to the securities industry overall.
The report, written by S&P research director Charles D. Rauch and two colleagues in the rating agency's financial institutions group, comes at a time when at least 10 commercial banks are integrating recently purchased investment banks into their organizations.
Though S&P is not the first to raise questions about these deals, its voice is likely to be heard above the din. The New York company has no vested interest in the success of these mergers, so its opinions are believed to be uncommonly objective.
Banks that have recently bought securities firms have not yet experienced any major problems. And their efforts to enter new businesses are winning support in the investment community.
For instance, Carla D'Arista at Friedman, Billings, Ramsey & Co., pointed out that NationsBank Corp., which acquired Montgomery Securities last year, added $200 million in noninterest income in the fourth quarter from investment banking and brokerage.
Still, the acquisitive banks have a big job ahead of them, said Jake Newman, a finance director at S&P. "It's important not to underestimate the difficulties."
"Investment banking is not risk-free, and many of these banks are gravitating to riskier high-yield securities," Mr. Rauch said in an interview. "The result could be destabilizing."
Mr. Rauch and his colleagues wrote that some commercial banks may push their investment banking units to underwrite deals that are far larger and more complex than the firms have experience with. When most of the acquired shops were independent firms, they focused on specific niches, such as initial public offerings.
But with the balance sheets of large commercial banks behind them, these firms could expand beyond their expertise. S&P points out that Montgomery Securities, now a unit of BankAmerica Corp., San Francisco, plans to build an equity derivatives unit and double its head count in New York-ventures that will require $1 billion of capital to support.
"Obviously, the securities units cannot call upon all of its holding company's equity capital," Mr. Rauch writes. "Nonetheless, Standard & Poor's believes these securities units do have incentives to use their newfound sources of capital to expand their businesses."
Another incentive is the need to justify the premiums their new bank parents paid to enter the securities business.
They also have incentive to take on more risk. Previously, many of the firms' senior managers owned stakes in their firms. In switching from owner to employee, the managers might become careless. "It's other people's money now," Mr. Rauch said.
Executives at First Union Corp., which recently bought Wheat First Butcher Singer as well as several money managers, credit success in those businesses to "a total commitment to the investment business, from top management on down," said Donald McMullen, executive vice president at the Charlotte, N.C., banking company.
But even with preparation, banks seeking to compete on the Street may be disappointed. "They're looking for a nirvana where none is," said John W. Zimmerman, senior vice president at Conning Asset Management, St. Louis. "None of the products offered by the acquired companies offer materially higher profits than products the bank is already in."