Several months before Bank of America agreed to buy Merrill Lynch, industry expert Chip Roame of Tiburon Strategic Advisors shared his prediction of such an event in Research magazine's 30th-anniversary issue (June 2008). "My guess is that Merrill Lynch is no longer a stand-alone entity. It's been bought by a bank," said Roame.
Roame took some time between work on the Tiburon CEO Summits (held in October in San Francisco and New York in April) to give his insights into what may lie ahead for the wirehouse firms this year and next.
Q. What is the future of the wirehouses?
The big picture, in my view, is that within the next couple of years, the wirehouses will restrict or shift themselves significantly.
Q. Can you describe one possible shift?
One option is that they may spin off brokers like the insurance firms did in the '80s, when they pushed the brokers out in order for the brokers to become agents.
What happened was a long, slow process, and ultimately the brokers have drifted further and further toward independence as independent contractors. Now most of them own their own businesses and sell multiple products from multiple vendors. An example of this might be that, say, you're a broker at the spin-off firm (like Morgan Stanley-Part II) selling Goldman Sachs' IPOs.
The insurance industry is now 80 percent independent and 20 percent captive, which is the inverse of stock brokers.
Q. Which firm may try this spin-off approach first?
It could be Morgan Stanley or UBS. It won't be Merrill, since Bank of America just bought it. Wachovia/A.G. Edwards is being integrated into Wells Fargo, and Citigroup is more likely to further integrate the Smith Barney operations.
UBS could do it, so it could refocus its core banking work.
Morgan Stanley could do it, so that Morgan Stanley-Part I could focus more on investment banking. That would mean James Gorman would be CEO of company two, and John Mack stays at company one.
Q. What would it take for a firm to make this shift?
Things are getting upset by the talk of breakaway brokers and the push to independence. As the industry environment changes, there may be the impetus to spur spin-offs.
Q. What's another fundamental change that you expect?
We could also see the full integration of brokers into the banking structure. Today, three of the wirehouses are owned by banks, i.e., Merrill Lynch, Smith Barney and Wachovia.
Citi is already pairing bankers and brokers. And BofA has said Merrill reps and clients will have a lot of bank products at their disposal. Merrill wants a personal introduction to be made by the lending officers, who would actually visit face to face with wealthy clients rather than just working off a list.
Q. And the third possible change?
This would be for wirehouse brokers to go fee-only, no more pay on commissions. Merrill could do this as the leader. It has a sales force that has grown up in the firm, a solid corporate culture, and the most brokers in fees. As its ship moves towards this, all brokers could go that way.
Smith Barney has something like 15 firms within it that have been merged, and it has more of a fee culture than some rivals.
Morgan Stanley may not do this, as its investment bank depends on brokers to sell these products, like IPOs, and fees make this challenging.
Wachovia has the lowest percent of fee accounts and has more of a regional-broker culture via its many acquisitions.
UBS could try it. The private-bank side is fee based; but this firm is more of a follower than an innovator.
Let's keep in mind that it's a big risk to be a first mover, because the advisors could revolt. A firm must be careful as it makes a first move like this one.
Q. Can you comment on a trend going on at the wirehouses today?
All firms have the same strategy, which is that the low producers are not important.
Q. Could you highlight what may help and/or hurt each wirehouse in 2009 and beyond?
Merrill Lynch is the best brand of the wirehouses. It has the most unified culture, and its reps have grown up there to become managers. It's a one-of-a-kind-culture place. And it picked a good bank to partner up with. BofA is a good brand and very well known.
Another factor working for it is that Merrill always has been innovative in terms of wirehouse trends. It's a good investment-bank franchise and is still stronger than its rivals.
But it is now part of the largest U.S. bank, which could dilute or otherwise negatively impact its brand.
Still, BofA is a good choice as a partner. Merrill had to sell, and no longer could exist as a stand-alone firm.
Q. How about Citigroup-Smith Barney?
Its strength is that it's not been bought, sold or merged. Its two parts have been tied up for years. It has a portfolio-management culture, and that is where the world is going.
It's announced plans and is executing in terms of further integration with the bank, through private banker-broker partnerships, and it seems to be moving down that path.
Smith Barney picked its bank partner a long time ago compared with its rivals.
However, it's had lots of executive changes. What's more, the turnover is really about the debate over brokers and what they should be: more independent or house-product focused?
There is dissention over Smith Barney's role, which seems a bit funny: It's been married to a bank the longest of all the wirehouses. It needs to get the whole team following a strategy, not publicly debating it. Pick the strategy and get on with it, which would end the turnover in leadership.
Q. What's your view of Morgan Stanley?
It's had continuous leadership and already had shrunk its FA force before the write-downs.
Its investment-banking franchise is akin to Merrill's; it really has got something there with a big fancy name today, when it had only a few hundred reps back in the pre-Dean Witter days.
The 20-percent purchase by Mitsubishi UFJ Financial group is not so important. It's good that Morgan Stanley's now well capitalized and can put its own fate in its own hands. So, from a position of strength, it could spin off its brokers. A few months ago, I thought it might be sold.
A spin off of its brokers wouldn't dilute the investment bank too much, if it makes the right arrangements and contracts with its brokers. Such contracts would be exclusive for a few years, say five or 10, akin to what the insurance firms have done.
As a wirehouse, Morgan's weakness is that it could be spun off.
Q. How about Wachovia?
With its purchase by Wells Fargo, there will be lots of changes. The brokerage could be called A.G. Edwards, given that all the executives have moved to St. Louis and that A.G. Edwards is the surviving entity and shop.
A. G. Edwards has been a well-run company, and Wachovia's done lots of mergers with Pru and the regionals, like Wheat First/Evergreen. It's done a good job at integration.
And Wachovia's sale to Wells looks positive, as Wells is a stabilizing influence. It's a well-run bank and is tech savvy.
Really, you have three large franchises: Wachovia, Pru and A. G. Edwards. They're all nationwide firms, so there's probably cost savings of $1 billion or more still to be had. But the mess of product lines, branches, etc., is uneconomic and has to be straightened out.
Also, Wells' H.D. Vest is a diverse channel for about 5,000 accountants and reps who are independent and go after CPAs and tax professionals.
For Wachovia, a key strength is that it has the A.G. Edwards advisors on board and offers diverse channels for FAs. Like Merrill, its weakness is that it is now part of a large U.S. bank, which could dilute and/or negatively impact both its Wachovia and A.G. Edwards brands.
This re-branding should happen in 12 months or less. I'd expect Wells to be the bank brand, and A.G. Edwards to be the brokerage brand; Wachovia goes away. But integration is a long process, and there are still Pru issues to deal with, let alone A.G. Edwards and Wells. This doesn't mean that Wachovia's done a bad job; it just means they still have lots to go through.
Q. And UBS?
UBS' strength is its reputation in global high-net-worth management; it's a Swiss-bank spin. Your account is at Paine Webber, but more discretion is being implied.
And what stamina! It's had more stumbles as an institution than most, but has come through it all. Plus, it keeps recruiting new reps. And, unlike some other firms, it hasn't imploded.
Its weakness is that it's had lots of write-offs and reorganizations. And it may be split off or experience further stumbles.
Q. To wrap up, what future do you see for the wirehouses?
They're impacted by the economy and the stock markets. And when you're paid on commissions and fees, with assets that are getting smaller and smaller, things are really tough. Their products are steady, but IPOs and M&As have dried up.
Janet Levaux, MBA/MA, is the managing editor of Research; reach her at firstname.lastname@example.org.