The View

Goldman Sachs’ job cuts show investment banking has become a low margin business

Bankers in Asia are having to adjust to the new normal of lower pay packets as managing IPOs becomes just another commodity business

PUBLISHED : Thursday, 29 September, 2016, 11:43am
UPDATED : Saturday, 01 October, 2016, 5:13am

The world’s biggest IPO market has become permanently unprofitable and overcrowded with banks. Goldman Sachs is reportedly cutting almost 30 per cent of its investment banking positions in ex-Japan Asia representing about 100 jobs. The job reduction comes as the bank faces its worst Asia ranking in equity issuance since 2008, according to data compiled by Bloomberg.

These layoffs may represent a long-term view for Goldman and other bulge bracket banks in Asia. But then a bank’s idea of a long-term strategy is deal-to-deal and client-to-client. However, the entire listing business has changed way beyond its early days in China. Competitive forces are conspiring against big foreign banks.

If they join a boutique or mainland bank they’ll have to get by with hundreds of thousands of dollars in annual income where you once made millions

Hong Kong remained the world’s No 1 listings market in the first nine months as initial public offerings from companies in China moved it ahead of Shanghai and New York. But total capital raised in the stock market dropped 60 per cent year on year, according to Thomson Reuters data. Hong Kong was the world’s largest IPO market last year and from 2009 to 2011. But advisory fees have also deteriorated.

Twenty years ago, mainland Chinese clients had no choice but to use foreign, bulge bracket firms for global IPOs and listings in Hong Kong or the US. Those were heady early days in the economically important process of shifting China’s assets from public to private ownership (albeit still state controlled).

In 1997, China Telecom’s (since renamed China Mobile) US$4.2 billion IPO was a landmark privatisation and listing led by joint bookrunners CIIC and Goldman Sachs.

Goldman spent years and millions cultivating the deal relationships needed to win the mandate. China Telecom was the largest Chinese equity raising at the time. It represented an entirely new sector from China where mainland assets were injected into a listed vehicle. There were no other publicly listed telecom entities from China at that time.

Then, the 2003 listing in New York and Hong Kong of Chinese insurer China Life raised US$3.5 billion representing the first offshore listing of a Chinese financial institution. The China Life listing displayed all the outcomes that Beijing loved in IPOs: retail investors oversubscribed by 150 times, the stock rose 50 per cent on the first day; and the whole deal was backed by a major US insurer American International Group which bought a 9.9 per cent strategic stake for US$200 billion.

Chinese authorities exercise tighter control over their IPO structures today. International investors understand China much better now and devote more coverage to Chinese companies. So deals have become more competitive.

Investment bankers are reluctant to admit that managing IPOs has irrevocably become a low profit margin, commodity business with little opportunity for adding value or differentiation. The dirty secret of IPOs is that the advisers and sponsors subcontract much of the listing application work to law firms. Banks focus on stock distribution.

Mainland clients are simply not valuing bulge bracket banks’ claims that they add substantial value and deserve a premium.

So it was inevitable that Chinese securities firms would gain the capabilities to challenge banks like Goldman Sachs and Morgan Stanley in Asia. Mainland financial institutions occupy seven of the top 10 positions in advising on Hong Kong IPOs this year, according to Bloomberg data.

Pre-financial crisis, a banker could retire with millions if he or she could prosper through three bull and bear market cycles. But, there has been no discernable market cycle since 2009 – just the distorted risk on, risk off environment of artificially low rates that are creating bubbles throughout the financial world. So bankers are being laid off irrespective of their own performance.

So what will these ex-Goldman bankers in Hong Kong do? If they join a boutique or mainland bank they’ll have to get by with hundreds of thousands of dollars in annual income where you once made millions.

For bankers, this kind of rejection and failure is devastating to their self-esteem and family relations. Shame and inadequacy replace the insuperable confidence built up through exponentially increasing bonuses. Little to no hope exists of finding any work with your previous pay. Then, you find out your skill sets are absolutely useless outside of banking. In the months after their firing, horrifying, soul destroying nightmares will jar them awake.

The sudden job loss is the violent disintermediation of the endless promise of great wealth and gold plated security that began during on-campus interviews at prestigious schools. When the promise of money and prestige is broken in return for hard work and long hours all that is left are lost dreams and a meagre severance. That is the deepest cut for today’s investment bankers.

Peter Guy is a financial writer and former international banker