GCC investments facing ‘double whammy’ of high interest rates, low oil prices
I do not see FinTech ventures as a challenge. Instead, they represent an opportunity for investment banks, says Janardan Dalmia, a former investment banker, who started Starfish Holdings International Ltd to pursue his entrepreneurial interests, while talking to AMEinfo.
Not an exciting story to begin with, but Barclays’ investment banking arm posted its quarterly loss in February. Apart from job and dividend cuts, it has also decided to quit its Africa business. Stories from Deutsche Bank and Credit Suisse were not much different. How do you view the investment banking scenario across the world?
I don’t think it’s any one particular bank’s issue. Due to the stronger regulatory regime since the 2008 crisis, banks have focused on strengthening their balance sheets and are becoming more selective in providing services and competing for investment banking business from a particular tier of clients.
They view clients as Tier 1, Tier 2, or Tier 3, based on their value and capacity to pay fees. Very rarely does a single bank provide investment banking services to all three tiers.
Given the limited foreseeable potential for investment banking transactions among Tier 1 and Tier 2 clients in the MEA region for the next 12 to 24 months, banks have been forced to reduce headcounts.
As for banks reducing their presence in Africa: given the overall low return on equity globally, banks are being forced to refocus on their areas of strength and to solidify their balance sheets by cutting risk.
Africa still provides banks with a long-term opportunity. Without knowing the specifics behind Barclays’ rationale, I would think that given the market volatility and currency fluctuations – and the fact that they hold 100 per cent of the risk while they own only 62.3 per cent of the company – these are likely triggers for the bank to reduce overall company risk and further strengthen their balance sheet by refocusing on their core geographies.
In general, investment banking business will always remain. Advisory and capital raising services are needed by businesses, governments and institutions in both good economic times and bad. And banking has, historically, gone through various cycles. After the structural shift in investment banking following the 2008 crisis, for most banks, the “new normal” of investment banking means operating within a lean cost structure with deferred compensation.
With several years of experience in the Arab region and outside, can you give us an analysis of investment banking in the region in terms of growth, opportunities and challenges?
Investment banking as a business will always exist, but opportunities are limited in the region.
Except a handful of top institutions, banks don’t make much money from the biggest regional corporations and institutions, which they tend to focus on. Rather, they make it from numerous Tier 2 and Tier 3 clients outside their general radar. Given the size of the MENA region and the limited transaction activity here, banks tend to keep a small, focused, on-the-ground presence with the support of bankers flying into the region from regional hubs.
From a careers perspective, unlike the US or UK, the general market for investment bankers in the region is very small. A typical on-the-ground investment banking team (primarily focusing on coverage, M&A, ECM and DCM) in MENA could range from five to, at most, 15 members.
Will the US Federal Reserve’s review of interest rates have any impact on investments in the region?
Theoretically, higher interest rates strengthen the dollar against other global currencies and attract capital away from emerging markets. Lower oil prices aren’t helping either.
Most GCC currencies are pegged to the dollar in some way, which means that monetary policy has to be imported from the Fed. A US rate hike should lead to higher GCC lending rates. In fact, following the hike, both SAIBOR and EIBOR increased by 30 to 35 bps – in line with the rise in the LIBOR. This is in addition to the higher cost of funding for local banks due to tight liquidity – deposits have become scarcer and more expensive as corporate clients withdraw money due to lower oil prices.
There is another dimension to this. Banks not only charge more for loans, they are pickier as to whom they lend. Defaults by SMEs have been rising in the UAE over the past six months; as a result, banks may prefer to restrict lending to safe names only. Some sectors (e.g., construction) may be starved for funding.
To put it simply: higher interest rates coupled with lower oil prices is kind of a double whammy.
The third consequence will be on tourist dollars. With the dollar appreciating and the euro as well as other currencies depreciating, Dubai might become more expensive for European visitors.
With the benefit of hindsight, we now see that the timing for the Fed’s rate hike couldn’t be more off. Following the rate increase in December, a sharp slowing of the global economy, volatile financial markets and a world oil-supply glut have conspired to change the economic picture and I don’t think the US will be increasing the rates further anytime soon.
Also, the negative rates promoted by BOJ, ECB and some other central banks are not likely to stimulate investments, but rather will make people more nervous about the economic situation. Such activity creates a sense of uneasiness and actually damages the public confidence.
It is a fact that FinTech ventures are mushrooming. Aren’t they posing a serious threat to the conventional investment banks? What progress has the region achieved in terms of adoption of technology and FinTech ventures?
The digital revolution in the financial services sector has been happening since the mid 2000s. Many think that financial technology ventures have the potential to redefine the entire ecosystem of global financial services, creating new technology solutions that might forever change the financial services landscape.
But I do not see FinTech ventures as a challenge. Instead, they represent an opportunity for investment banks. With advancements in technology, banks have been re-engineering their businesses to improve efficiency and they have been investing in FinTech opportunities. Generally speaking, the three major areas of investment by banks are lending, payments, and big data and analytics.
Also, after maximising cost reduction through traditional methods (e.g., headcount reduction) since the financial crisis of 2008, by using FinTech investments, banks can work together to standardize back-office functions, freeing up capital that can be invested in income-producing parts of the business.
Many of the biggest opportunities for cost savings now lie in the back and middle offices, where banks can introduce new technology, automate procedures, re-engineer processes and reduce huge amounts of duplicated costs within the investment banking industry.
FinTech ventures will continue to grow and will continue to attract investments as significant opportunities remain to be tapped in the Middle East and Africa.
Parts of this interview appeared in the April issue of TRENDS magazine, sister publication of AMEinfo.com