Morgan Stanley says EU banks are losing ground as Mifid II bites

(Financial News) -- European investment banks that have invested heavily in their stock trading divisions are still losing ground on US rivals, as new financial regulations begin to skew the market towards the largest banks.

Analysts at Morgan Stanley say there are early signs that the European Union's revised Markets in Financial Instruments Directive, which has changed the way equities and other financial assets are traded, is favouring Wall Street banks operating in the region.

European banks "appear to be losing share, and we will be watching this closely for less scaled players, particularly Deutsche Bank, Barclays, BNP [Paribas], HSBC,” Morgan Stanley analysts, led by Magdalena Stoklosa, wrote in a report this month.

Under Mifid II, which came into force on January 3, banks are subject to enhanced 'best execution' requirements that force them to secure the best deal for fund managers when trading on their behalf.

Among the biggest changes is the requirement that banks charge separately for investment research, instead of bundling it with trading commissions. Most of the large global asset managers now cover this cost themselves — slashing research budgets as a result.

Larger banks offering faster trading platforms, sophisticated algorithms and bigger research teams have an edge under the new regulation, observers say. Morgan Stanley's analysts noted in their report that JPMorgan had seen "material increases" in electronic trading in Europe, the Middle East and Africa. They also highlighted gains for Citigroup — which has been investing heavily in its electronic equities business in Europe — in the Emea cash equities markets.

In a separate research note, JPMorgan banks analyst Kian Abouhossein said the trend of US investment banks outperforming their European rivals was likely to “continue in 2018”.

JPMorgan and its rivals Bank of America Merrill Lynch and Morgan Stanley are among the banks most used by fund managers for trading equities in Europe. In the first three months of 2018, these banks reported year-on-year gains of between 25% and 38% in revenues from equities sales and trading, as volatile markets spurred client activity.

Morgan Stanley's analysts said that UBS was the "exception" in the trend of European banks falling behind.

The Swiss bank's equities business was the standout performer in a strong first quarter for its investment bank. UBS put equities at the heart of restructuring that began under its investment bank chief Andrea Orcel in 2012 and it is, along with the big Wall Street firms, one of the main counterparties for fund managers in Europe's stock markets.

Speaking to Financial News after the publication of the bank's earnings on Monday, Orcel said that under Mifid II banks were seeing equity trading volumes move through "the market leaders, the people who provide you the best content, people who provide you the best execution".

UBS's European rivals Barclays and Deutsche Bank — which will both report their earnings this week —have also been making investments in technology and talent across their equities divisions in an attempt to stay competitive.

Deutsche's stock trading division, however, has been struggling, posting 10 consecutive quarters of falling revenues. The German bank hired Peter Selman to lead its equities team last November and has also brought in Mark Chen and David Silber as co-heads of US equity derivatives from Citi. Selman told FN last month that he wanted to create more of a risk culture and win new hedge fund clients to improve the bank's fortunes in equities.

Barclays, meanwhile, hired Stephen Dainton as global head of equities in August and has since named a new head of European cash equities, Naseer Al-Khudairi, and lead equity strategist in the region, Emmanuel Cau.

Both Deutsche and Barclays have been investing in their trading infrastructures but US banks continue to outspend their European rivals on technology. According to the data and research firm Coalition, US investment banks spent an average of $1.8bn on trading technology in 2017, compared with $1.1bn at EU firms.

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