Wednesday, July 21, 2010

Will Reform Affect or Create Opportunities?

Financial reform is now under way. Congressmen have discussed, argued, debated and compromised to pass new laws that will modify what financial institutions can and cannot do after the crisis. In many instances, they have two years to adapt.

They will adapt in many ways. Some will redeploy capital and resources toward the most profitable products and services. Some will reprice products and activities to make up for costs or declining revenues because of new regulation. Top banks will examine and analyze their retail products (checking accounts, mortgage products, credit cards), their trading activities(proprietary trading and quantitative strategies in in equities, derivatives, mortgages, currencies and more), their stakes in hedge funds, and their investments in private equity.

They will change their businesses to comply with new laws, and they will evaluate whether they should remain in certain businesses if the new laws make the economics unprofitable. That may mean exiting businesses, spinning some off, selling others, downsizing some units, or making valiant attempts to operate them while complying with new rules.

What does all this mean to MBA students and other finance professionals? Will they shy away from certain financial institutions because of uncertainty or the apparent lack of opportunity? Should they?

If they look cleverly, where there might be constraints or restrictions, there just may be opportunity. Take a peek:

1. Derivatives clearing and brokerage. Financial reform didn't obliterate the roles banks play in derivatives trading. It might limit it, and it might discourage the creation of new products or inhibit those that are on the drafting table now. But banks will still be able to act as dealers in conventional derivative products (futures, interest-rate swaps, credit default swaps, etc.), particularly for products that are or will eventually be traded on exchanges and processed by clearing agencies.

Banks will likely beef up these units, instead of pare them down. And they will seek to be even larger players by facilitating the trading and settling of derivatives on exchanges. If certain derivatives are required to be traded and settled through clearing agencies, then banks contend those trades might as well be funneled through them (for a fee).

They will step up to act as that primary vehicle through which derivatives users and traders must go to execute and process a trade. Some do this already (in a "prime brokerage" role for hedge funds), but many more will try to capitalize on this special role by expanding the client base.

Over time, they will hire more professionals to market these services (to corporations, hedge funds, and more) and manage and process the flow of trades on behalf of clients. This could create opportunities for MBA's interested in capital markets, derivatives and client relationships.

Banks with large prime brokerage units (businesses that facilitate trading for hedge funds, dealers and smaller brokers) may seek to expand their presence and may hire MBA's for roles in risk management, client management, and client flow-trading.

2. Corporate banking and lending. Banks, both big and mid-sized, over the past decade evolved to become not just commercial banks, but expansive investment banks. They focused on attracting smart, experienced people to build the investment-banking operation.

They didn't ignore the commercial or corporate banking side, yet didn't always grow it rationally to take advantage of their heritage strengths. They remained stalwart lenders to corporations and used that as an edge to compete with boutique investment banks. But they kept their eyes primarily on what they needed to do to contend in investment banking (enhance their capabilities to underwrite stocks and bonds, provide merger advice, and make markets in all instruments).

Financial reform has encouraged many banks to rediscover their strengths. Corporate banking is one. It complements investment banking. And they are reminding themselves of the steady, stable flow of revenues that can be generated from a fundamental business of supporting long-term clients (via bread-and-butter businesses such as corporate lending and cash management).

There is not much in the new regulation that will discourage them from rebuilding and expanding these units and promoting them sufficiently to attract top talent.

Corporate lending, too, took a hit during the financial crisis, as banks piled up risky loans, partly to support an investment banking client or a client that might award it investment-banking business later. They took hefty losses; careless risk management or risk managers with little authority thwart aggressive deal-doers is part of the blame. But banks have an infrastructure and history of corporate banking and can grow it cautiously if they choose to.

Hence, where before they may not have tried hard, if at all, to hire MBA's from top schools into corporate banking, they may now repackage how they present that unit, enough to lure MBA students or experienced graduates.

3. Retail products. Financial institutions, via lobbyists, have squirmed about how new regulation will make it hard for them to deliver products cheaply, efficiently and profitably. There are new rules or special review processes for credit cards, overdraft privileges and the unveiling of new retail products.

Banks say the rules add costs to the delivery of conventional products or discourage the creation of new ones (because of a seemingly arduous review-and-approval process). But they won't exit this business. They crave and rely on large deposits from retail banking and the steadfast, long-term customer base. There is too much value in deposits and loyal customers to decide to abandon retail banking, if they already have a large-scale operation.

They will likely repackage and bundle products, reprice them to benefit the most loyal customers, focus on the most profitable retail areas, and perhaps attract professional talent to make themselves as competitive as ever. That might include new MBA's right out of school.

4. Emerging markets. Financial institutions, even if they think financial reform is inhibiting, research opportunities, find them, and go seek them out. If they can do the same things in another region (in investment, corporate and retail banking) and do so profitably and with a keen understanding of the risks, then off they go.

Some banks--post reform--have already begun to expand again or differently in new markets or emerging markets. This means targeting the "BRIC's" (Brazil, Russia, India, and China), and it means identifying favorable business opportunities at the rung of countries below. To do so, they will hire professionals willing to work abroad or already understanding cultural and business dynamics in these areas. Another opportunity for MBA's in finance and those fluent in or interested in other languages and cultures.

It's certainly a new era or phase for many financial institutions. Financial reform helped to turn that corner. Nonetheless, instead of narrowing the scope of what business-school graduates wish to do in finance, it just might have expanded the range.

Tracy Williams

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