It is one of the 'shoulda woulda coulda' moments of Philip Augar's The Death of Gentlemanly Capitalism, an insider's story of the decline of the City's broking industry following the Big Bang, and the mostly frustrated attempts of commercial and merchant banks to build global investment banks in the late 20th century.
The book, published in 2000, feels relevant today for two linked reasons. Firstly, the legacy of their investment banking forays continue to hurt systemic lenders such as Deutsche Bank (Ger:DBK) and Royal Bank of Scotland (RBS). Secondly, RBS has now revealed how it will restructure its business to comply with ringfencing rules, designed to protect the group's retail customers from the risks of its investment banking operations, which take effect in 2019.
Before that date, the core retail and business bank will be moved into its Scottish private bank, Adam & Company plc, which will be renamed The Royal Bank of Scotland plc, sitting within the ringfence. Another holding company including its NatWest bank will also be within the ringfence. The remaining corporate and institutional bank (the investment bank) will be renamed NatWest Markets plc, and will sit outside of the ringfence. Both will be subsidiaries of a group company.
Which takes us back. In the late 1990s, before RBS ownership, NatWest Markets was high up the rankings for equity broking, corporate finance and had a strong US business. But a £77m loss in 1996 arising from a trader's mismarking of interest rate derivatives was enough to convince the NatWest board to retreat from its investment banking strategy, and important parts of the business were hived off. Barclays also sold off its equities and corporate finance business after its board became fed up with high costs and volatile income.
As Mr Augar explains, the City's attempt to build world-leading investment banking operations floundered for a few reasons: the separation of US investment banks from commercial operations in the 1933 Glass-Steagall Act gave fully fledged investment banks on the other side of the pond a big head-start. The UK brokers lacked the capital base, the governance and the risk management structures to fully compete, following the changes of the 1980s. The commercial and merchant banks that came in lacked the stomach for the ups and downs and the high pay needed to keep star traders. Not to mention a government utterly relaxed towards the new wave of foreign owners.
But those investment banking operations that were retained and extended were still enough to bring banks such as RBS and Barclays to their knees in the financial crisis. Consequent reforms to increase capital requirements and the US ban on proprietary trading (the Volcker rule) have made it impossible for banks to extend themselves in the same way. The return of NatWest Markets is a revival in name only. Those operations that remain appear to be there to serve RBS's global clients with currency hedging and financing activities, rather than to build a major player in prime brokerage and research across the asset classes.
Regulators and policymakers want banks to go back to boring, as we've written before, utility-like investments that do not take undue risks. In that search, Lloyds (LLOY) is mostly there, especially if it wasn't for those pesky PPI payouts. RBS is on its way. HSBC (HSBA) is big enough that its investment bank is not determining its future. Barclays (BARC) has the biggest job ahead, hence its battles with regulators over its restructuring. The bank must again decide whether being a national champion for investment banking is worth the fight.
