Economic uncertainty and headwinds in Asia are set to hit prime brokerage revenues at the top US investment banks, experts at Berenberg claim.

In a note to clients, analyst James Chappell wrote “it is hard to see growth continuing” for PB units - divisions which offer a bundled package of services to hedge funds.

Between 2010 and 2015, statistics from research house Coalition show prime brokerage was the growth driver across equities for investment banks.

Revenues rose by 70% during the period, while equity derivatives revenues grew by 27%.

PB units are often essential to the smooth functioning of many hedge fund managers’ businesses, providing a source of financing – allowing clients to borrow securities and cash.

Chappell says there were two factors behind the strong performance over the last five years.

“Low rates and economic volatility boosting demand for structured products/Delta 1/synthetics and growth in Asian demand for equity derivatives in 2014/2015."

However, he adds that considering that economic uncertainty continues to rise and the headwinds Asia is facing (slower growth, less risk taking in 2016), it is hard to see this growth continuing.

In fact, Chappell says that it is more likely that these revenues will decline.

“Cash equity revenues are likely to continue to remain challenged, with the risk that a fall in markets causes revenues to fall significantly.

“Despite the 65% rise in equity markets since 2012, cash revenues have not grown materially.

“We expect equity revenues to return to 2011 levels over the next three years, which would see a 15% decline.”

More broadly, outside of prime brokerage, Chappell says global investment banks are “marooned.”

“Revenues are in structural decline as factors including too much debt, regulation, money velocity, collateral chains and derivatives cause revenues to fall.

“Surrounded by a sea of debt, the large US banks seem tied to the past in the hope that the tide will change. The pressures they face are structural and only an acceptance that operating models need to change is likely to lead to material outperformance.”

Collateral

In his note, Chappell also predicts a “collateral race” as banks look to secure more funding.

“Trust has broken down in the system, both from a regulatory viewpoint and also from an intra-bank perspective, there has been an increasing demand for secured funding and collateral backing trades.

“This has been driven by the banks’ need to both reduce capital requirements and increase safety, resulting in increasing asset encumbrance.

Alongside this, he adds that central bank operations (QE/LTRO) have taken collateral out of the system, decreasing supply as other safe assets have been removed/ downgraded.

“Derivatives clearing will further exacerbate this as nearly $3trn of collateral could potentially be needed to enable derivatives to be cleared.

“We see this having two effects: firstly, a race for collateral as banks look to secure financing, and secondly, an increase in the pro-cyclicality of the system as encumbrance increases.