FT Alphaville has written about the rise of Delta One and equity derivative divisions before.
But here’s further proof that banks are now increasingly setting themselves to profit from their Delta-One departments — divisions like the one Jerome Kerviel at SocGen worked for.
Sarah Butcher at eFinancial Careers, the city careers specialist, talks about the trend in a recent article (H/T Climateer Investing).
She refers to a recent report by JP Morgan’s Kian Abouhossein, which deals with the future of equity derivatives while noting that compensation per head will probably fall some 32 per cent between 2009 and 2011, as banks seek to maintain margins.
But as she notes, there are still a handful of areas that still look promising (our emphasis):
There is, however, one single area in which growth may be forthcoming in the medium term: equity derivatives. Although revenues in flow equity derivatives are being squeezed, Abouhossein is of the belief that Delta One, strategic equity transactions, emerging markets ED, and ETFs all have growth potential still.
And here’s her very handy account of what prospective equity derivatives traders should know from Abouhossein’s report:
1) Equity derivatives are going to be the ‘key determinator’ for IB wallet growth FICC is dead.
IBD has yet to come to life. Equity derivatives are the only hope. Abouhossein is predicting a 10% CAGR for ED between 2010 and 2012 based on, ‘higher long-term profitability, lower operating gearing, and more diverse business mix.’
2) They’re hot, but it may feel like equity derivatives are cooling down
While 10% CAGR is not to be sniffed at, Abouhossein says the business has historically grown at a rate of 15%. The slowdown is predicated on: less client leverage; demands for more simple structured products; new capital rules for banks reducing profitability.
3) You really do want to be working in ETFs, Delta One, strategic corporate derivatives, or emerging markets equity derivatives
This is where Abouhossein thinks the real growth will be. He’s predicting that ETFs will grow 20% per annum between 2010 and 2012, that ‘strategic corporate transactions’ will grow 10-15% per annum, and that Delta One products will grow 9% per annum.
4) You really don’t want to be working in flow equity derivatives
Most banks have been building their equity derivatives flow businesses and Abouhossein sees clouds ahead. “Overcapacity is building up in flow equity derivatives, with all players aiming to take market share in a business which is becoming commoditized,” he warns ominously. The reason for this? “Margins are under pressure both in the US which also has a well developed retail market for listed derivatives, and in Europe where the relatively large OTC business is moving progressively on exchange.”
5) You really don’t want to be working in structured equity derivatives for a US bank
US banks’ structured equity derivatives businesses are likely to be affected by Section 716 of the Dodd-Frank Bill in the US, which prohibits the Federal Government from bailing out organisations involved in equity derivatives swaps activities and could lead to US banks segregating their structured equity derivatives operations in different businesses. This would lead to hassle, higher capital requirements and higher funding costs. “If this scenario materializes, smaller players in structured equity derivatives such as MS, BoA, and Citi with c.$0.3bn of revenues could consider exiting the business to refocus on other equities businesses with higher ROE,” Abouhossein predicts. On the other hand, French banks’ structured equity derivatives teams will do well out of all this and look like ‘employers of choice.’
What’s particularly interesting from the above is Abouhossein’s observation that while the future of equity derivatives looks good from a Delta One and ETF basis, the flow-oriented business is getting increasingly crowded.
This, of course, is the high-frequency dominated market making side of the business — i.e. making money from index arbitrage opportunities, options, warrants et cetera.
As we’ve explained before, Delta One desks instead focus on the idea of “sweating” assets. That is to say, you take on x amount of assets for hardly any cost with a promise to return x performance. Any additional performance you generate from utilising those assets, you get to keep for the bank.
Scope for revenues out of securities lending, meanwhile, is a major reason why ETFs are seen as attractive too.
So with that in mind, here — from both Butcher’s and Abouhossein’s perspective — are the banks which are gearing up to be big players in the sector:
6) If you must work in flow equity derivatives, work for Goldman Sachs or SocGen
As flow equity derivatives businesses becomes more commoditised, success will be all about being at the centre of the flow and having the scale to provide liquidity. This will favour existing market leaders who are (in descending order): Goldman Sachs, SocGen, and BNP, UBS and Barclays.
7) Hiring will be spotty, but watch the Swiss banks
The great joy of equity derivatives according to Abouhossein is that no bank is strong in all areas; all have gaps to fill. Despite this, equity derivatives headhunters are far from erupting with excitement. “The volatility in May changed the minds of a lot of decision makers regarding their hiring plans. I don’t see a lot of recruitment taking place this year,” says Jeremy Kemp at search firm Jeremy Kemp International.
“We are, however, seeing some activity in Delta One, ETFs and emerging markets – these are definitely the areas of activity.” Despite this,
Abouhossein thinks Credit Suisse will be hiring, based on, ‘growth plans in listed derivatives and delta one,’ and an intention ‘to expand its flow and corporate footprint in equity derivatives whilst building up scale in APAC.’ UBS is also to be watched. In June, it hired Yassine Bouhara from Deutsche to head up its equities division, and Bouhara’s expected to do lots of recruiting. Dixit Joshi’s arrival at Deutsche is also expected to precipitate hiring, although maybe not as much as at UBS, given Deutsche’s ED business is already well established.
Overcoming the Volcker rule, with ETFs – FT Alphaville
Did Socgen use ETFs to liquidate Kerviel positions? – FT Alphaville
Greenwich: Equity derivatives are looking good – FT Alphaville
Web of shadow banking must be unravelled – FT