March 29, 2001
Dow Jones Newswires
TALES OF THE TAPE: Brokerages Tumble Along With Stocks
By CHAD BRAY Of DOW JONES NEWSWIRES
(This item was originally published Wednesday.)
NEW YORK -- The downward spiral of stocks has been hard for investors, but even harder for investment bankers.
Earnings among the brokerage firms that had quarters ending in February were well off last year's record pace and forecasts for next quarter are tempered. Sagging enthusiasm and equities values have reduced investment banking deals and dried up last year's gains from in-house trading accounts.
Price-to-earnings ratios have fallen below traditional levels as earnings outlooks remain murky and share prices at major firms are off as much as 40% since the beginning of February. This could represent a buying opportunity for bargain hunters.
Analysts, however, warn the tumble may not be over. P/E ratios could fall lower despite favorable interest rates, and the high multiples of 1999 and 2000 appear to be over.
Amy Butte, a Bear Stearns Cos. securities analyst, said how firms manage their expenses in the coming year, including how much they prune their staffs, will make the difference in their quarterly results.
'There is not a lot of visibility in the market,' Butte said. 'It's difficult to understand where brokers are making their money.'
Butte said brokerage firms traditionally have multiples of 15 times forward earnings. Forward earnings refer to estimated earnings for the current calendar or fiscal year and analysts use estimated earnings to calculate forward P/E ratios. Those multiples are now in the 13 to 14 range. 'I've seen them go as low as the single digits - five to eight times earnings,' Butte said. 'I would expect them to be 10 to 12 times earnings in this type of market.'
Butte believes the multiples are still too high despite recent P/E declines.
Goldman Sachs Group Inc.'s (GS) forward P/E ratio has fallen to 15.9 from 18.7 since Feb. 1. The firm's stock price has declined 21% in that time.
Morgan Stanley Dean Witter & Co.'s (MWD) forward P/E ratio declined to 11.3 from 18.3 in less than two months. Its stock has fallen 37% since Feb. 1, closing Tuesday at $56.60. Merrill Lynch & Co. (MER)'s multiple fell to 15.1 from 17.8 in that time, while its stock price declined 21% to close Tuesday at $59.77.
Bear Stearns Cos. (BSC) has a forward P/E ratio of 9.8, compared with 10.6 in February. Lehman Brothers Holdings Inc.'s (LEH) multiple dropped to 11.9 from 13.1. In the past two months, Bear Stearns stock is off 23% and Lehman Brothers' is down 18%.
First quarter results did little to ease investor concerns about future performance. Earnings fell at Goldman, Morgan Stanley, Bear Stearns and Lehman Brothers due to softer investment banking and trading results. Merrill Lynch is expected to report its first quarter results next month.
Questions remain about how Wall Street plans to manage its business amid the market downturn. Cost containment programs are in place at most firms, but the massive 10% to 15% head-count reductions associated with economic slowdowns haven't surfaced outside of the discount brokers.
Last week, Charles Schwab Corp. (SCH) said it will trim its workforce by 2,750 to 3,400 full-time employees and contractors, or 11% to 13% of the total. A smattering of job cuts have been announced across the securities industry, but major firms have held off large-scale reductions.
Dean Eberling, a securities analyst at Keefe Bruyette & Woods, said firms will face a very difficult period of balancing long-term growth needs and near-term profitability. If firms don't reduce head count and cut back expansion, they could face a 'margin squeeze.'
'The stream of revenue is under pressure in the very near term,' Eberling said. 'Even if (merger and acquisition activity) were to recover very dramatically, it would not be booked as revenue for several quarters out.'
Analysts say firms want to protect their overseas expansion of the past two years because the firms fear being caught flat-footed if the market suddenly turns around.
David H. Komansky, Merrill Lynch's chairman and chief executive, recently told analysts he's reluctant to make broad-based cuts like the firm did in 1998, calling the cuts a mistake.
Komansky said it is 'critical' for the firm to maintain its capacity, especially if an economic turnaround is in cards later this year. Komansky said Merrill Lynch's outlook is for an economic turnaround by the third or fourth quarter.
-By Chad Bray, Dow Jones Newswires; 201-938-5293; chad.bray@dowjones.com
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