Deutsche Bank’s withdrawal from the equities business casts a long shadow over the City of London. Nestling on the corner of London Wall and Old Broad Street, a stone’s throw away from the traditional home of the London Stock Exchange, Deutsche Bank was the last full-scale European challenger to Wall Street’s elite to have its investment banking headquarters in the heart of the Square Mile.
The bank’s unusual locus in the place where “Big Bang” happened speaks of a drift away from the old City as the geographic centre of London’s financial services industry. Its retreat from the business model that underpinned that sudden deregulation of financial markets in the 1980s, is likewise a sign of the decline of equities as a capital markets business. History suggests that the former shift will be permanent, but the latter may not be.
In 1983, when plans to deregulate the City were announced, business was centred on the narrow streets and alleyways of EC2. This intricate geography was matched by a fragmented business model. Trading in equities and gilts took place in a central market place, the floor of the Stock Exchange, but strict rules kept the participants apart.
Brokers had to execute trades through specialist firms known as jobbers and corporate advice was an entirely separate business, in the hands of the generally blue-blooded merchant banks. In a fast-globalising industry, the tiny firms in their tiny offices and their protected markets were in danger of being left behind by more progressive off-exchange bond markets and the newly deregulated Wall Street banks.
By 1986, when Big Bang happened, the business model and the scene of the action had changed. Equities were a growth area for investment banks, fed by institutional investors seeking to protect capital in an inflationary age, governments wanting to privatise state-owned assets and corporate issuers seeking alternatives to expensive debt.
Arcane rules were swept away and investment banks combining trading, broking and corporate advice on the Wall Street model were created. The old merchant banks wanted to play. Morgan Grenfell was one, buying a jobber and building a broker. Cramped offices in the heart of the City could no longer absorb the newer, bigger firms, which migrated to its outer reaches and, later, further east to Canary Wharf.
Things did not work out exactly as planned and many of the new investment banks were quickly dismantled. Morgan Grenfell was one of the first to go, closing Morgan Grenfell Securities in 1988 and selling itself to Deutsche Bank in 1989 as part of the German lender’s push to become a universal bank. A decade later, Deutsche bought the US derivatives specialist Bankers’ Trust and moved into a new building in the heart of the City, ready to use its balance sheet to challenge Wall Street.
In the 2000s, Deutsche became one of the age’s “flow monsters”, climbing the league tables and threatening to disrupt the old order. Then, like the other big banks, it was caught out by the 2008 financial crisis. It was slower than some to respond and, after death by a thousand cuts, last week’s announcement marked the end of a 30-year strategy.
The experiences of another European bank suggest that this may not quite be the end of the story. In 1997, Barclays sold off its equities arm to refocus its investment bank on fixed-income bonds. Several observers, including me, promptly wrote off Barclays as a serious investment banking player, but we were wrong. Along came Bob Diamond, who turned Barclays Capital into a powerhouse and, in 2008, opportunistically salvaged Lehman’s US equities business from the wreckage of the crash. Barely 10 years after exiting the market, Barclays was back and now remains the only full-service European alternative to the Americans. Will history repeat itself with Deutsche Bank?
Not any time soon. The empty equity seats on London Wall tell not just of a failed strategy, but of a change in the capital markets paradigm. The number of listed companies is in steady decline, initial public offerings are elusive and central stock exchanges are losing out to internalised trades between institutions. Vast pools of private equity and sovereign wealth money are available to finance business and the Big Bang model of investment banks mediating between investors and issuers on public exchanges is being challenged.
With burdensome governance requirements, even more burdensome activist investors ready to pounce on any mis-step and a ready alternative from private money, “Why go public?” is a question many private companies are asking. These are the new terms of trade in capital markets and they are here to stay.
However, if 40 years watching this industry has taught me one thing, it is that nothing is forever. Triggers for re-equitisation might have to include an increase in interest rates to change the private equity funding maths, the return of inflation and policy interventions — for example in regulation or taxation. Were some or all of these events to occur, primary equity markets would recover their lustre and some future Deutsche Bank management might look for its own Mr Diamond to rebuild a full service investment bank. It has, after all, been done before.