Leading broker-dealers in the cash equities business have defied the stark doomsday predictions of a few years ago. Yet new research by McKinsey highlights how fragile their activities have become. The Global Capital Markets Survey,1 for example, demonstrates that the overall recovery in equities trading is being driven by derivatives, financing products, and greater principal risk taking. A separate survey of buy-side equity traders confirms that cash commissions are falling fast. A number of forces—among them, the introduction of new market transparency rules, the escalation of a technology "arms race," and the unbundling of execution from research—are pushing the industry toward an uncertain end state.
While pessimists will undoubtedly continue to predict a rash of new exits, we believe that scale economies, reputations, and privileged pools of liquidity provide the foundation for many sell-side players to stay in the game. Sell-side participants must identify the challenges ahead and take appropriate steps to overcome them.
Rescued by the bull . . .
In 2002, most industry commentators announced the death of the cash equities business. As margins collapsed and new issues stalled, many broker-dealers made dramatic cuts in their equities staffs and merged their equities activities into more profitable fixed-income...