NEW YORK – Banks stand to lose as much as $4.5 billion in annual revenue as regulations aimed at improving financial stability alter how interest-rate swaps are bought and sold, according to a report from McKinsey & Co.
That’s equal to 35 percent of the $13 billion in revenue banks worldwide earn each year from rate derivatives and comes at a time when their fixed-income, currencies and commodities businesses are flagging, McKinsey’s Roger Rudisuli and Doran Schifter said. The driving force is the requirement that most swaps trade on electronic systems rather than over the phone, with more price transparency and competition eating profits.
Swaps are the largest part of the $710 trillion over-the-counter derivatives market, which has come under U.S. oversight for the first time in its 30-year history after the trades fueled the financial crisis and worsened its aftermath. While banks dominated the market before and after the crisis, the new rules shine a light on trades that were always done in private.
“If they don’t do anything, their profitability goes away,” Rudisuli, a partner and co-leader of McKinsey’s corporate & investment banking practice in the Americas, said during a phone interview. To counter the revenue hit, dealers must cut costs, realign their sales and trading teams and focus attention on fewer customers, he added.
The swaps revolution mandated by regulators puts further pressure on bank profits, which have suffered because of less price volatility. McKinsey said global sales from fixed income, currencies and commodities trades fell 16 percent in the first quarter from a year earlier.
JPMorgan Chase & Co., Citigroup Inc., Bank of America Inc., Goldman Sachs Group Inc. and Morgan Stanley were the five largest U.S. swaps dealers as of Dec. 31, according to the Office of the Comptroller of the Currency.
The shift to trading swaps on regulated platforms, known as swap-execution facilities, or SEFs, while potentially killing profits for the banks that used to negotiate the transactions privately, is aimed at bolstering financial markets and preventing another crisis.