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ICAP, Tullett, and the future of investment banking

Tullett Prebon’s takeover of ICAP’s voice broking business is rich with symbolism and portent.

ICAP wants to become a technology firm, free from onerous regulation and able to industrialise e-trading and indices. Tech can scale, doesn’t ask for commission , and doesn’t rig Libor. Meanwhile, Tullett wants to roll the dice again, doubling down on voice broking — a business model that really ought to have gone the way of the VCR.

The two firms represent the two possible futures of investment banking.

Brokers — with no sticky lending relationships, no primary business to offer cross-subsidies, and high comp ratios — are most vulnerable to the skinnier profits now on offer in the securities industry.

Banks now face the same dilemma as the brokers. Do they bet on the skill and judgement of their armies of salespeople, and the higher returns that ought to come from having intelligent humans, not dumb algorithms, to intermediate trades? Or is it better to cut staff now, boost margins, and aim to quickly get to where the industry will inevitably end up?

The second route seems more progressive. It’s on trend, disruptive, new and exciting. It’s more Shoreditch than City.

But for the firms that stick to their guns in traditional voice trading businesses, the rewards could be real. The competition will thin out, as it has among interdealer brokers, and margins will improve.

Securities trading is a walled garden, protected by a deep moat of regulation and high barriers of client relationships. Hotels and taxis, reeling from internet-based disruption, are both regulated industries, but the regulatory burden is peanuts compared with that in financial markets.

For firms already in the business, regulation is expensive, unpleasant, and difficult, but for firms wanting to disrupt it, regulation is almost impossible.

That does not mean firms should cross their fingers and hope. There are more tools than ever before to improve the performance of broker-dealers — collateral management, risk dashboards, better analytics, trade compression, straight through processing — and banks stand still at their peril.

Tech is trendy, but Tullett’s end of the deal should give pause for thought. The telephone isn’t going away anytime soon.

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