Global Custodian Prime Brokerage Survey 2009

• 

  Annual prime brokerage survey finds an industry in upheaval

  
  

  The collapse of Lehman Brothers in 2008 sparked a series of changes which have altered the prime brokerage industry beyond recognition.

  
  

  Until now, however, it has been hard to quantify the change. The publication of the 2009 Global Custodian Prime Brokerage Survey, now in its 16th year, offers a first snapshot - from a 2,000-strong sample-of how hedge fund managers currently see their prime brokers.

  
  

  With responses down by a quarter by comparison with 2008, the survey suggests that the prime brokerage industry has decreased in line with the shrinkage of a hedge fund industry battered by shrinking asset values, redemptions and receding performance thresholds.

  
  

  But the survey also shows that the prime brokerage industry has undergone a seismic restructuring of its own. One hedge fund in three had experienced the termination of a relationship with a prime broker during the year. This rose to more than one in two among the largest hedge funds.

  
  

  But the most striking finding is the weakening of the stranglehold on the prime brokerage industry of Goldman Sachs and Morgan Stanley. Long dubbed a "duopoly," the grip of the two investment banks on the industry had proved immune to repeated attempts by competitors to usurp their leadership position.

  
  

  As recently as last year, Morgan Stanley and Goldman Sachs accounted for some of the highest number of responses, with Morgan Stanley collecting more than any other prime broker. In 2008 the two firms accounted for nearly 23% of responses. This year, they accounted between them for less than 18%.

  
  

  Among hedge fund clients of the bank responding to the survey, 43.6% said they had reduced their balances with Goldman Sachs. The only firm to see a bigger reduction of balances among their survey respondents was Morgan Stanley, with an enormous 70.2% saying they had cut their balances with the firm. The survey average was just 25.4%.

  
  

  The survey suggests that the main factors behind the switch were anxieties about creditworthiness in the wake of the rescue of Bear Stearns and the collapse of Lehman Brothers, as well as changes in terms of business in September last year, as prime brokers scrambling to fund themselves found it hard to fund clients as well.

  
  

  Among survey respondents that addressed the question, one in three offered "counterparty credit risk concern" as the reason for terminating a prime brokerage relationship. However, one in eight named "terms changed by prime broker" as their reason for ending the relationship.

  
  

  Comments by respondents offer a glimpse at what this actually meant in the second half of September 2008. "Instability during times of stress, no uniform message, randomness in financing and margin, lack of partnership during times of stress, distant management, inability to focus on solutions," is the litany of complaints about one prime broker.

  
  

  One respondent claimed their prime broker "misled us when we inquired about rumors of impending changes to leverage/margin, [then] made dramatic changes without notification, which subsequently led to margin calls." Another respondent complained that his prime broker "changed financing terms with zero notice," and another of "lack of notice when changing margin rules."

  
  

  A survey respondent says the behavior of his prime broker "during the liquidity crisis was completely unacceptable. They deliberately delayed transfers of cash as well as unencumbered securities out of the account." Another respondent describes a "refusal to deliver cash and shares, [and] an attitude which has not been to work with the clients, but rather protecting [the prime broker] in the very short term." Another says it "always seems to be about [them] not the customer."

  
  

  Unsurprisingly, the survey also shows that the main beneficiaries of the crisis of confidence in the former broker-dealers were those prime brokers backed by the balance sheet of a major bank: Barclays Capital, BNP Paribas and BNY Mellon-owned Pershing, but especially Credit Suisse, Deutsche Bank and J.P. Morgan.

  
  

  One survey respondent said that a large bank was "the only prime broker that allowed us to continue business as usual, even though they also raised margin and financing rates. All the others changed margin or financing in such a way that it was impossible to do business with them." A second said of a large bank that "during the fall of '08 they went to a much higher level in terms of service and access to senior management. They remained calm and collected when many others were scrambling and trying to change the rules during the game."

  
  

  J.P. Morgan took on another 200 large accounts in the last year, in addition to the clients it acquired with Bear Stearns. Nearly half of its survey respondents said they had increased their share of balances with the bank.

  
  

  Credit Suisse, which has long pursued a policy of focusing on the largest funds, operated at a more measured pace, adding around 50 accounts, but saw the largest proportion of respondents claiming to have increased balances with the firm, at 55.6%. Deutsche Bank added over 80 clients, and more than half of its respondents increased balances with the bank. Pershing put on 30 clients. Newedge, which is jointly owned by Credit Agricole and Sociètè Gènèrale, has grown its clientele by half in the last year.

  
  

  Winning new clients was not without its difficulties. Although some clients were impressed by the transition, there were various gripes in the survey about what one called "time taken to open accounts." Several respondents detected signs that their new providers were understaffed for coping with the flood of new business.

  
  

  Ironically enough, however, the overall winner in terms of pleasing new clients was a broker-dealer. Jefferies & Company collected an average weighted score of 6.02 for the perception of the quality of the transition process by new clients, nearly 10% above average. This positive rating was achieved despite doubling its clientele in the last year, including the purchase of a raft of smaller funds from BNP Paribas, which offloaded them after buying the former Bank of America prime brokerage business.

  
  

  However, another major finding of the survey is the explosion in the use of smaller brokerage firms, or so-called "mini-primes," which offer various mixtures of services plus the opportunity to outsource others to major service providers. Shoreline Trading, for example, which offers clients the choice of clearing and custody at Credit Suisse, Fortis, J.P. Morgan or Goldman Sachs, and Gar Wood Securities, attracted more responses this year than some established prime brokerage firms.

  
  

  With 49% of respondents saying that they have started a new prime brokerage relationship in the past 12 months, a massive upheaval is now in train in the prime brokerage industry. The survey shows that the key factors in choosing a prime broker are no longer financing and securities lending but counterparty credit risk (named by 61% of survey respondents that answered the question) and safety of assets (50%). This is opening up the prime brokerage business for banks with good credit ratings and custodial capabilities, such as BNY Mellon, Deutsche Bank and J.P. Morgan.

  
  

  Many relationships have been tarnished for good. Asked how likely they were to reappoint a prime broker where a relationship had ended, an average of one in four survey respondents was prepared to say "never". "But this also means three out of four are prepared to go back," observes Dominic Hobson, editor in chief of Global Custodian, in an essay analyzing the broader findings of the survey, and which is published alongside it. "They are, after all, hedge funds: They are hedging their bets. It will be interesting to observe in 2010 which prime brokers understood what they needed to do in order to win back their lost clients and which did not. A little humility would be a good starting point, but, of all the virtues, it is the one that investment bankers find hardest of all to practice."

  
  

  To access the results of the 2009 Global Custodian Prime Brokerage Survey, click here. To read "An industry turned upside down," the analytical essay by Dominic Hobson that accompanies the publication of the survey results, click here.

  
  
  

  Global Prime Brokers: With Outliers (Outliers are defined as responses that record 1s and 2s, or 7s.)
  Prime Broker	Weighted Average Score
  1. Credit Suisse	5.82
  2. Deutsche Bank	5.80
  3. Citi Prime Finance	5.72
  4. J.P. Morgan	5.70
  5. Barclays Capital Prime Services	5.61
  6. Bank of America Merrill Lynch	5.59
  7. Goldman Sachs	5.52
  8. Morgan Stanley Prime Brokerage	5.51
  9. UBS	5.46
  10. Newedge	5.45
  11. RBC Capital Markets	4.90

  
  
  

  Global Prime Brokers: Without Outliers (Outliers are defined as responses that record 1s and 2s, or 7s.)
  Prime Broker	Weighted Average Score
  1. Deutsche Bank	5.61
  2. Credit Suisse	5.60
  3. Citi Prime Finance	5.55
  4. J.P. Morgan	5.49
  5. Goldman Sachs	5.43
  6. Bank of America Merrill Lynch	5.40
  7. Barclays Capital Prime Services	5.40
  8. Morgan Stanley Prime Brokerage	5.40
  9. Newedge	5.33
  10. UBS	5.32
  11. RBC Capital Markets	4.88

  
  

  The Global Custodian Prime Brokerage survey has become a major repository of information about the prime brokerage industry. This year, over 2000 responses were submitted by clients of 35 prime brokerage firms. The questionnaire consisted of a total 37 questions covering the following 10 service areas: Client Service, Operations, Financing, Margining (which was a new section to the survey this year), Securities Lending, Reporting ,Technology, Hedge Fund Business Consulting, Capital Introductions and Value. As in previous years, respondents were asked to rate the quality of the services provided to them by prime brokers based on a grading of 1 to 7, where 7 is excellent; 6, very good; 5, good; 4, satisfactory.

  
  

  Prime brokers are eligible for awards in five different asset sizes (less than $100 million, $100 million to $1 billion, $1-5 billion, $5-10 billion and more than $10 billion), seven regional categories (North America, Europe, Japan, Asia-Pacific, South Africa, Australia and Canada), two client strategy categories (Single or Multi-Strategy), and two categories based on the use of single or multiple prime broker(s). To qualify for a rating in any of the asset categories, providers needed to receive a minimum of 10 responses. To qualify for a rating in region, prime brokers had to secure at least 10 responses in each of Japan and South Africa, 15 in Asia-Pacific, 20 in both Europe and North America, and 5 in each of Australia, Canada and South Africa.

  
  

  Full research reports are available from Muzaffar Karabaev, Director of Research at Global Custodian.

  
  

  Contacts:

  
  

  Dominic Hobson, Editor in Chief, at dhobson@globalcustodian.com
  or +44 (0) 207 228 3013

  
  

  Allison Cayse, Surveys Editor, at acayse@globalcustodian.com
  or +1 513 574 0220

  
  

  Muzaffar Karabaev, Survey Reprints/Research Enquiries, at
  mkarabaev@globalcustodian.com or +44 (0) 207 148 4289

More from this section

• Bloomberg Tradebook Forges Dark Pool Transparency Agreements 02 Sep 2010
• First Chinese Registered Hedge Fund To Be Launched 02 Sep 2010
• Morningstar Reports Hedge Fund Performance For July 23 Aug 2010
• Global Custodian Hedge Fund Administration Survey 2010 Published 20 Aug 2010
• Northern Trust Adds Deutsche Bank To Prime Custody Network 17 Aug 2010

Top Rated News

• First Chinese Registered Hedge Fund To Be Launched 02 Sep 2010
• SMX Completes First Trade Cycle 02 Sep 2010
• Mostrey Moves From BNP Paribas Fortis To Euroclear 01 Sep 2010
• EU Firms To Face Potential OTC Derivatives Fines 01 Sep 2010
• KNEIP Buys Co-Link 31 Aug 2010

Mandate Watch

First Bank of Nigeria Plc

Login