Prime Brokerage Money Moves From the Big Guys
October 20, 2008, 4:40 pm
The prime brokerage landscape seems to be changing amid the shake-up on Wall Street, according to Investment Dealers’ Digest. Two major prime brokers — Bear Stearns and Lehman Brothers — are gone, while two more — Morgan Stanley and Goldman Sachs — have had hundreds of clients pull their money out of their prime brokerage units.
The result has been a boom for rivals like Deutsche Bank and Credit Suisse, as well as independent prime brokers, which have all fought for years to lure prime brokerage clients away from their big rivals.
The prime brokerage units inside the big investment banks provide financing, clearing and settlement services for hedge funds, as well as for other investors. These units hold on to billions of dollars of their investors’ cash and help execute their trading strategy.
But the demise of Lehman Brothers last month shook up this lucrative business. Several hedge funds that had counted on Lehman’s prime brokerage unit were stunned to find out that their collateral was frozen and that they could not get access to their money to make trades. Some that depended on Lehman as their sole prime broker remain paralyzed.
Many hedge funds saw the collapse coming and started pulling their money out of Lehman in the weeks prior to its demise. That helped sharply increase Lehman’s liquidity problems, which caused the bank to collapse.
Morgan Stanley almost suffered a similar fate when many of its prime brokerage clients began pulling their money out of the firm. “Hedge fund managers tend to follow a herd mentality more than most investors.” Investment Dealers’ Digest writes. “They are a curiously close-knit group that talk frequently and collaborate on deals. So when a fund manager began withdrawing funds furiously on Sept. 15, which is when much of the transfers began, others were not far behind.”
The rush to the exits happened fairly quickly but appears to have started even earlier. Morgan Stanley acknowledged in its filings for its third quarter, which ended on Aug. 31, that its “prime brokerage business experienced significant outflows as clients withdrew some of their cash balances and reallocated positions.”
But it was not just Morgan Stanley that had a problem — Goldman also saw many of its clients flee. “Combined, some 1,000 hedge-fund clients have fled Goldman Sachs and Morgan Stanley since Sept. 15,” an unidentified person told Investment Dealers’ Digest.
Still, the run on Morgan Stanley was not enough to force the venerable Wall Street firm to close shop. It was successful in receiving billions of dollars in capital injections from Mitsubishi UFJ Financial Group, the large Japanese bank, as well as the United States government. That appears to have calmed investors’ fears.
Morgan Stanley and Goldman Sachs have tried to reassure skittish investors and contend that their clients would return. ‘”But those banks are never going to get 100 percent of the business again,” according to Investment Dealer’s Digest, citing an unidentified person in the hedge fund industry.
That means many small prime brokers as well as other investment banks have seen an uptick in their business. After the collapse of Lehman, “some brokers on the street started setting up 24-hour operations just to handle new clients,” another unnamed person told the publication. “They were doing nothing but setting up accounts, 24/7.”
Hedge fund managers have come to recognize the importance of having more than one prime broker. In the past, “Goldman and Morgan Stanley (and the former Bear Stearns) ruled the roost, and used that clout to strong-arm clients into keeping all of their assets under their umbrella,” Investment Dealers’ Digest wrote.
Prime brokerage was a major profit engine for Morgan Stanley and Goldman Sachs. So while they may have survived the latest turmoil in the markets, they are likely to see one of their profit centers dwindle. |
