Investment banking proves tough at the top
Last week's decision by Britain's Barclays Bank to stop trying to become a force in global investment banking is a testament to that industry's growing impregnability.
Top players such as Wall Street's Morgan Stanley, Merrill Lynch and Goldman Sachs are consolidating at a dizzying speed to ensure they stay dominant.
For Barclays chief executive Martin Taylor, the turning point came two weeks ago with the US$9 billion merger between Salomon Brothers and Traveler's Inc, which owns Smith Barney.
The deal clearly showed the so-called bulge bracket banks making sure they stayed at the top by getting even bigger.
For upstarts such as Barclays de Zoete Wedd (BZW), it would become increasingly costly to compete.
European banks have effectively been presented with three choices.
The most difficult - and one clearly shunned by Barclays last week - is to develop strong in-house skills underpinned by enough financial muscle to get to the top quickly.
SBC Warburg crystallised its recent growth through the acquisition of Dillon Read.
Germany's Commerz-bank also appears to be going down this road, building up a 1.5 billion deutschemark (about HK$6.6 billion) war chest. It is seen as the leading contender for the BZW businesses which are up for sale.
This route, however, is expensive. BZW was only able to generate a 12 per cent return on economic capital, a shadow of the 20 per cent returns achieved by more retail-focused banks.
For those who think such poor returns do not warrant the investment, yet who still wish to retain a presence in investment banking, the second choice is perhaps more attractive.
National Westmimster Bank last year learnt an expensive lesson with NatWest Markets after several acquisitions in the US failed to bring strong returns.
Restructuring has given staff a much more defined incentives structure, which the bank hopes will improve results. It has also scaled down its ambitions of becoming a member of the bulge bracket.
Schroders, one of the best-performing British investment banks, is also refraining from setting its sights too high, and is only just making its stockbroking debut on the London market.
HSBC Holdings, which owns brokerage James Capel, is in a similar position. Its ambitions lie in carving out a lucrative niche for itself in the markets it knows best rather than aiming for global domination.
However, the recently formed HSBC Investment Banking has shown it is still vulnerable. In the first-half it reported a 32 per cent drop in return on average shareholder funds, and suffered a major loss on an underwriting transaction in Hong Kong.
The third route - to retreat from investment banking - is perhaps the most obvious. It is also the one chosen by Barclays.
Standard Chartered has done this with much success after slipping on several banana skins in the early 1990s. The heavier focus on commercial and retail banking has won much favour among British investors.
Lloyds TSB is a darling of the industry, regularly achieving a 25 per cent-plus return on economic capital, and committed almost entirely to business, personal and retail banking.
Even HSBC Holdings, which still largely considers itself a commercial bank, has pleased shareholders with its 23 per cent return on average shareholder funds.
Lloyds TSB, Barclays and NatWest all have roots in retail and commercial banking, and are strongest in these areas. Investment banking is a newer business.
Yet even Barclays' decision will not deter many from trying to establish a presence in the industry.
Focusing too heavily on retail banking smacks of putting too many eggs in an increasingly competitive basket, whereas investment banking can reap big rewards.
Those who choose to pursue investment banking must be ready to placate the often short-term concerns of shareholders, however.
