Global Capital Markets 2017: Mastering the Value Migration

The capital markets ecosystem turned in a decent performance in 2016 compared with the previous five years. Although investment banking revenues continued to decline, they did so at a lower rate, while other types of players—such as exchanges and venues, information providers, and buy-side institutions—realized revenue gains. The net result was year-over-year (YOY) growth of 5% in total industry revenues.

We refer to the shift of global revenue pools from banks to nonbanks as the value migration. (See Global Capital Markets 2016: The Value Migration, BCG report, May 2016.) This migration has continued along the following paths:

• From smaller investment banks to large universal banks
• From players without a specific niche to those with a concentrated focus, such as boutiques specializing in M&A
• From regulated to unregulated entities
• From firms with weaker digital capabilities to data- and tech-savvy firms
• From players without a distinct informational advantage to those with proprietary data and insights

Although a lessening of the effects of quantitative easing, along with impending deregulation, may dampen the impact of the value migration, institutions must still find ways to master it and make it work to their advantage. Several key forces will continue to shape the evolution of the market:

• Evolving Regulatory Dynamics. While some regulatory easing is expected in the US, it is not clear how deep or broad the changes might be. At this stage, the only certainty is continued uncertainty, which may make it increasingly difficult for banks to carry out strategic planning. Moreover, while banks may benefit from regulatory relief, the US financial regulatory framework will, overall, continue to provide advantages to nonbank competitors.

  In Europe, regulatory trends are likely to follow suit. Initiatives such as the updated Markets in Financial Instruments Directive (MiFID II) and the Markets in Financial Instruments Regulation (MiFIR) will open the door to greater transparency, shift trading to more centralized marketplaces, and develop more explicit pricing for trading and investing. As for final revisions to the Basel III framework, also known as Basel IV, the official sector is keen to retain the stringent capital, liquidity, and leverage requirements that were put in place after the 2007–2008 global financial crisis. These core banking regulatory standards may be subject to renegotiation, however, depending on the political winds. Ultimately, in both the US and Europe, high uncertainty makes it critical for all players in the capital markets ecosystem to participate in the regulatory discussion whenever possible, in order to help shape revisions and better anticipate what lies ahead.

• The Rise of Data- and Technology-Driven Value. It is no surprise that value creation is becoming more tightly linked to data and technology. To investigate this point further, BCG looked at total shareholder return for a sample of publicly traded firms in the industry. Our analysis determined that exchanges and venues, along with information providers, have led value creation in the post-crisis era, a finding consistent with the value migration trend. Moreover, we saw that top-performing firms come from every part of the ecosystem—pure-play investment banks, buy-side institutions, exchanges and venues, and information providers—and share a number of common traits. Crucial among these is a commitment to leveraging technology for more digitally innovative ways of doing business.

  The implications of this trend vary by player type. For an investment bank, for example, a key challenge is to move beyond traditional ways of leveraging data to drive value. Greater emphasis should be placed on using cutting-edge technologies to provide a more holistic view of the client and facilitate a more customer-centric approach to client service. Similarly, banks must move beyond providing research and advisory services on the basis of a so-called soft-dollar commission model and toward developing platforms that can be monetized either directly or indirectly.

  Exchanges and information providers are increasingly becoming data and technology players in their own right, and they must look to sustain and solidify this growth. Large players should therefore take advantage of fragmentation in the information services industry, using acquisition as a lever to enter into higher-growth subsegments and to generate greater economies of scale through consolidation. All players should identify novel sources of data and information that can provide insight to buy-side and sell-side players for valuation, market positioning, and forecasting.

• Shifts in Market Structure. One recent manifestation of technology-driven value migration and regulatory arbitrage is the rise of principal trading firms across electronically traded asset classes. These players are capturing significant share from traditional market participants in trading activities. They are also seeking to expand into new asset classes and to diversify beyond pure market making into areas such as customer business (with the support of prime brokers), risk management analytics, and liquidity outsourcing to other intermediaries, all of which puts further pressure on the traditional “supermarket” model of banking.
• The Push for Digital Transformation. Given rapid market evolution, ecosystem players—especially banks—must continue to push for digital transformation of their businesses. Successful digital innovation requires a comprehensive reevaluation of people and incentives, organizational structure, processes, and operations. The road can be rocky, but if navigated skillfully, it can result in a leaner and more adaptive organization that is better able to seize the opportunities provided by continued market change.