In modern times, Europe has always been the poor relation in international capital markets. US investment banks have consistently been better at breaking into European markets than the reverse, since before the deregulation of the Stock Exchange. Of the top five EMEA equity capital markets bookrunners, three are US houses.
The US has always been a bigger fee pool, and a unified market, making the incumbent institutions near-unassailable. A determined entrant with deep pockets and a long time horizon can break into the market, especially if, like Barclays, they can pick up one of Wall Street’s titans on the cheap. But the top five table for US ECM shows no foreigners at all, while the top five for investment grade DCM only features Barclays (at the bottom).
Since the crisis, this disparity has yawned wider, exacerbated by inept regulation and sclerotic policymaking in Europe. While the US government was forcing TARP funds down the banks’ throats, Europe was sleepwalking towards a sovereign crisis the consequences of which are still being felt in growth numbers.
It would be a stretch to argue that the re-regulation of the US financial system has been trouble-free, but compared to Europe it has at least been fast. More certainty earlier on issues like structural reform and derivatives, and less punitive treatment of securitizations. The scope of the US reforms has also been more limited.
European initiatives like the Markets in Financial Instruments Directive, the Alternative Investment Fund Management Directive, Solvency II, Omnibus II, the Central Securities Depositories Regulation and the Market Abuse Regulation are not strictly speaking anything to do with the financial crisis. But all have been co-opted into a wholesale attempt to redraw the rules of European finance, giving the management and workforce of Europe’s investment banks a head-spinning challenge.
Glass half full
But the next round of regulation should find a more receptive audience. Now Europe’s luminaries have almost finished with the crisis tidy-up, and the infrastructure of Banking Union is being levered into place, the next project is Capital Markets Union.
Nobody quite knows what it is, but the incoming president of the European Commission, Jean-Claude Juncker, wants it. Michel Barnier, Juncker’s outgoing counterpart, said: “My dream, which can be inherited by my successor, is that we will have a real European capital market.”
The only part which has so far taken concrete form is the European Central Bank’s Target 2 Securities initiative, which will stitch together Europe’s securities settlement system. Talking about post-trade is a turn-off for many front office bankers and traders, but the initiative is an essential prerequisite for a real European capital market to function.
Government bond and repo markets, which, as every emerging markets banker knows, are essential for fostering wider growth in financial markets, remain largely national in Europe, split apart by the different depositories and settlement systems.
Other parts of the prospective capital markets union are more susceptible to scepticism.
Barnier mentioned: “MiFID II, new rules on securitization, other measures in the context of long-term financing and securities markets and certainly more diversification of funding for small and medium-sized enterprises” as part of the plan for capital markets union.
But the prize is huge, if European authorities can make a capital markets union happen. The EU has a GDP almost the same size as that of the US, but generated only 61% of the US investment banking fees in the first nine months of this year. European companies have fewer funding options than their US counterparts; European savers are disenfranchised and discouraged from taking responsibility for their portfolios.
A big part of the disparity is due to the pools of capital which the US market seeks to access. It still had an absolute majority of the world’s pension fund assets ($11.6tr) in 2012. The UK and the Netherlands maintain large funded pension pools, but while France has pension fund assets totalling just 0.3% of GDP, and other European heavy hitters like Germany (6.3%), Italy (5.6%) and Spain (8.4%), there is always going to be a lag.
But Europe’s investment banks should, nonetheless, keep their eyes on the prize. The new European Commission is looking for ideas right now to transform the way European firms raise funds, and there is a short window when it will be receptive to suggestions of what capital markets union should be and how best to achieve it.
The intermediaries of the European capital markets ought to be the experts on both points, as well as the big beneficiaries of the move. Engage with the project, play the long game, and Europe could one day stop being the poor relation.