Street Stumbles in Stocks, Backs Away From Bonds

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The biggest financial companies in America had a tough quarter of trading at the end of 2012. Whether it was stocks or bonds, trading revenues declined or stayed flat at JPMorgan Chase, Bank of America, Goldman Sachs, and Citigroup, each of which reported earnings this week. Meanwhile these banks seemed to have pulled away from the bond market while getting stung in the stock market.

Let's start in fixed income. The business of trading bonds, currencies and interest rates trailed off for most everyone in the last quarter. The end of year was just a tougher time to make money trading as a trader and market maker in these areas.

At Goldman Sachs, revenue from "Fixed Income, Currency and Commodities Client Execution" fell 8.4 percent, to just over $2 billion, from the third to the fourth quarter. JPMorgan Chase's "Fixed Income Markets" business dropped by 14.7 percent, to $3.1 billion.

The declines at Bank of America and Citigroup were much more severe. Fixed Income Sales and Trading at Bank of America saw revenues fall 29 percent, to $1.5 billion. A Citigroup, revenues fell by 27 percent, to $1.7 billion.

With one exception, the picture wasn't much better in the equities market.

Citigroup's revenue from equity markets fell 11 percent, to $455 million. Goldman saw a similar decline—a 10 percent sequential quarterly decline took "Equity Client Execution" down to $764 million. JPMorgan's equity markets business fell 14 percent, to $895 million.

Bank of America fared best on this measure, somehow achieving a 1 percent gain that brought its equity sales and trading revenue to $674 million. Not too shabby in a quarter when your rivals all saw double digit declines in equity market revenues.

Now none of this is exactly apples to apples comparison. The banks are terribly unclear about exactly which revenue lines correspond to which activity. So equity sales and trading at Bank of America might consists of a broader range of businesses than "Equity Markets" at JPMorgan. But it does give you a feel for how well the trading and market making businesses are faring.

Some of these revenue declines may be explained by the banks changing their tolerance for taking risks. The risk measure some banks report is Value-at-Risk or VaR. JPMorgan, which helped invent this measure, describes VaR as a "statistical risk measure used to estimate the potential loss from adverse market movements in a normal market environment based on recent historical market behavior." Basically, it's the amount the banks think they could lose in a single day of trading absent a shock or crisis.

JPMorgan reports that VaR in its fixed income trading business declined from $118 million to $96 million in the fourth quarter, an 18.6 percent decline. That makes its 14.7 percent decline in fixed income trading revenues in the fourth quarter understandable: the bank appears to have reined in its tolerance for risk in the bond market.

The VaR in JPMorgan's equities trading desk increased from $19 million to $27 million, a huge 42 percent increase. Which means that JPMorgan's 14 percent decline in equity revenues might be a sign that its traders made a lot of bad moves in the fourth quarter. Or, slightly differently, we might suppose that JPMorgan's traders had to take on a lot more risk per dollar earned.

Goldman doesn't list a "fixed income" VaR but the closest proxy is probably what they refer to as "interest rate" VaR. This dropped from $73 million to $67 million, which is an 8.2 percent decline. That's almost exactly in line with the decline in fixed income revenue.

Like JP Morgan, Goldman also increased the VaR in its equities operation, taking it from $21 million to $31 million. That's a 47.6 percent rise in risk for a business whose returns declined 10 percent.

Neither Citigroup nor Bank of America have reported VaR for the fourth quarter so we're in the dark about what risks they took on to achieve their results. (They'll likely put their VaR numbers in their annual statement.) But it does make me wonder how much risk Bank of America's traders must have taken to keep their equities earnings flat. Or, maybe, they were just lucky.

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