Bill Gross: New Regulation Will Lower Investment Bank Profits

Bill Gross argues that tougher regulation of investment banks, particularly regarding leverage, will lower their profits. While his forecast is intuitively correct, it will also increase the propensity of professionals in non-capital-using businesses, like M&A amd fund management, to form boutiques or operate in pure-play firms subject to less oversight.

From Bloomberg:

Goldman Sachs Group Inc., Lehman Brothers Holdings Inc. and Merrill Lynch & Co. will earn less and face higher borrowing costs because of increased regulation of investment banks, Pacific Investment Management Co.’s Bill Gross said.

Treasury Secretary Henry Paulson today proposed the broadest overhaul of U.S. financial regulation since the Great Depression and said the Federal Reserve should expand its oversight. The Fed earlier this month engineered New York-based JPMorgan Chase & Co.’s purchase of Bear Stearns Cos. and became the lender of last resort to the biggest bond dealers.

Investment banks’ invitation to borrow at the Fed’s discount window will “come with a price tag,” Gross wrote on Pimco’s Web site today. “There seems no way that current reserve requirements for banks will not in some nearly uniform way be imposed on investment banks. Leverage and gearing ratios of securities firms therefore, will in a few years resemble those of commercial banks themselves resulting in reduced profitability for major houses such as Goldman, Lehman and Merrill Lynch,” said Gross, who is based in Newport Beach, California. The three securities firms are all based in New York.

“These shadow banks will likely be forced to raise expensive capital and/or reduce the bottom line footings of their balance sheets,” Gross said. This “will be costly, and bond spreads as well as stock prices should begin to reflect it.”

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  1. Anonymous

    Gross works for a shadow banking conduit, he is full of crap!

    Also see: “This isn’t going to create a new role for the Fed as some sort of panacea to eliminate what is characterized as systemic risk,” said Michael Zuppone, chair of the securities and capital markets practice at international law firm Paul Hastings.

    He said the current proposal is almost like “creating a homeland security department for the financial services sector.” President Bush created the agency after the terrorist attacks of 2001 by consolidating a number separate security agencies.

    The government’s proposal for bank oversight will also string together different agencies. For instance, the plan proposes the merger of the Commodity Futures Trading Commission and the Securities and Exchange Commission _ blending them to monitor U.S. futures, commodities, and equities markets.

    CFTC acting Chairman Walt Lukken said in a statement that the differences between the two agencies are not accidental, and that trying to “homogenize the two regulatory regimes is certain to cause more harm than good.”

  2. Anonymous

    In addition to the above, also worth noting the great reason for FEMA being shuffled under a different pea after it dropped the ball with Katrina! Same deal here, as you have a system filled with nepotism and idiots that thrive on chaos, so why not mix it up and give them more money to do far less; what would it matter?

  3. Anonymous

    It seems like the source of credit crunches historically is increased leverage. Why doesn’t the system create disincentives for leverage?

    In addition, size does matter with respect to “too large to fail” and moral hazard. Why not create disincentives on size.

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