Does The Death Of Investment Banking Kill The Case For Barclays PLC?

Leaner, Stronger, Smaller

When Barclays (LSE: BARC) (NYSE: BCS.US) announced it will cull 7,000 more investment banking jobs this year, merciless markets leapt for joy. The share price rose 7.2% to 260p as chief executive Anthony Jenkins announced he was looking to build a “leaner, stronger bank”, but the euphoria didn’t last. 

Barclays has since shed all its gains, falling back to 236p. The bank will certainly be leaner following the job losses, and it may even be stronger. But will it be a better investment?

Barclays emerged from the financial crisis in relative good shape. It avoided a government bailout, despite Bob Diamond’s excesses. It then snapped up the investment banking arm of Lehmans at a snip, giving it a firm foothold on Wall Street. But it has been going backwards ever since.

From Nice To Naughty

A string of costly mis-selling scandals, from PPI to Libor interest-rate rigging, did serious damage. ‘Nice guy’ Antony Jenkins pledged to clean up the bank’s image, then blew all his good work on Project Transform by upping investment banker bonuses a naughty 10%, despite a 30% drop in profits.

Now Barclays has retreated again,downgrading its ambition to establish itself as a global trading bank to match Wall Street giants like JP Morgan and Deutsche Bank. If you think the size of the UK banking sector distorts the economy, sucks talent from more productive areas, and creates a culture of short-termism, you may applaud the news. But I think it diminishes the UK as a whole, and Barclays in particular.

Barclays hasn’t completely killed off its investment banking division. It is pulling out of fixed-income, currencies and commodities (FICC), where it was traditionally strong. This follows a 28% drop in FICC income to £2.49 billion, and a 41% drop in volumes, so is hardly the end of the world. 

Barclays will remain in equities, credit and customer advice, where margins are greater. This may help it reverse plunging returns on equity in the investment banking division, which fell to 8.2% last year, against a target of 12% across Barclays. 

Barcap Capped

Investment banking has become more expensive, thanks to ever-tougher regulation, which makes it harder to justify the extra volatility. Jenkins plans to cap investment activity at around 30% of Barclays’ assets, down from 50%, should make this a safer stock to hold. 

The big question is how much damage this does to Barclays’ status as a global bank, and its ability to compete for top staff and big clients. I think it will struggle. Especially if FICC springs back into favour, say, when interest rates start rising. What happens if equities and credit fall out of fashion then?

Barclays is now a leaner, smaller investment, but one thing is getting bigger. It currently yields 2.7%, and that is forecast to hit 4.9% by December 2015. If Jenkins continues his new strategy, Barclays could end up as a solid income stock, like the old Lloyds TSB. There are worse fates than that.