Summit told Citi may not be profitable for several years

The transition for Wall Street Banks, Goldman Sachs and Morgan Stanley to bank holding companies, will be "painful", Oppenheimer & Co analyst Meredith Whitney told Reuters Global Finance Summit held in New York, London and Hong Kong recently.

Whitney also said that Citi, which was one of the casualties of the subprime crisis, was unlikely to be profitable for several years and needed to reinvent itself, either by buying another US retail bank or losing some of its businesses.

While Citi's Global Transaction Banking business continues to be profitable, Whitney said that opportunities for cross-selling to clients across Citi's myriad financial services businesses, was not happening because the bank had not invested enough in "integrating different units' computer and risk management systems".

She also stated that losses in the bank's consumer loans business in emerging markets such as Mexico and India were rising and that an accounting rule change would bring credit card loans packaged into bonds back onto Citigroup's balance sheet forcing the bank to set aside an additional $7 billion to $10 billion to cover loan losses, Reuters Global Finance Summit reported.

Citi lost its bid for Wachovia Bank, the US's fourth-largest bank by market value, to Wells Fargo in early October. The deal would have helped to increase its deposit base, which is considered crucial in these credit challenged times. Reuters Global Finance Summit reported that Citigroup relied more on borrowing in the bond market than competitors, particularly in the US, which increased its funding costs.

"If they want to grow their US business, they're going to have to fund it differently," Whitney told the Finance Summit.

Having lost the Wachovia deal, Citi is believed to be seeking other acquisitions.

The 'superbanks' of tomorrow

In recent months with bank stocks plummeting and the aftershocks of the US credit crunch continuing to resound in global markets, no one would be surprised if the outlook for the banking sector going forward was dire.

Yet, while our faith and confidence in banks may be at an all-time low, McKinsey believes banks will double their profits and revenues by 2016.

It predicts that global banking revenues will grow, on average, by a not too unhealthy 7.5% a year from 2006 to 2016, compared with an average of 8% a year from 2000 to 2006 (and 12.6% from 2002 to 2006). Although revenues are expected to slow somewhat, McKinsey says they will still exceed current forecasts for GDP growth by more than one-half of a percentage point a year over the 10 years from 2006 to 2016.

"Consequently, we expect the industry to generate $5.7 trillion in revenues and $1.8 trillion in after-tax profits by 2016 —more than twice the levels at the end of 2006."

How can this be, you may ask with household names such as Citi having to grovel to Middle Eastern sovereign wealth funds to help balance their balance sheets after significant write-downs in the current sub-prime debacle.

Well it seems part of the reason for McKinsey's rather bullish predictions for the banking sector is the growth in demand for banking and financial services in emerging markets, which it says will contribute roughly half of the absolute growth in new banking revenues from 2006 to 2016, while North America and Western Europe will account for 25% and 20%, respectively.

Russia, says McKinsey will be one of the fastest-growing large markets in the next few years, alongside China. More importantly perhaps, India is predicted to overtake Central and Eastern Europe. Those segments that are likely to be profitable include retail banking and investment banking, trading and securities services, which McKinsey says will provide a larger relative share of bank revenues.

But perhaps the biggest driver that may support McKinsey's predictions is the prospect of more consolidation in the banking sector to create "superbanks".

"Over the next five years, we expect a new wave of consolidation to speed the emergence of 'superbanks,' with more than $500 billion in market capitalization," says McKinsey.

Today, global banking is the least concentrated industry says McKinsey with the top 20 banks accounting for less than 40% of its global market cap, compared with an average of 67% in other key industries. Interestingly, those banks that are in the Top 20 today, are not guaranteed to be the 'superbanks' of tomorrow. "Even the current top European and US banks aren’t guaranteed to achieve 'superbank' status with their existing portfolios," says McKinsey.

What will the bank of the future look like?

JPMorgan has always been one for making acquisitions that cause other banks to sit up and take notice, even though they may scratch their heads, thinking, 'How does that fit within banking?'

The first one, that perhaps caused other banks to pay attention, was the JPMorgan's $129 million acquisition of Vastera, a global trade management software and service applications provider (otherwise known as trade logistics). Given Vastera's focus on the physical supply chain, some competing banks questioned the value of a bank moving beyond its traditional financing role into the physical supply chain .

JPMorgan has since stated that the Vastera acquisition is not about being in the logistics business, but about positioning the bank and its trade services business, which the Vastera business is integrated with, much earlier in the supply chain to provide firms with greater transparency and visibility around documentary compliance governing the inward and outward flow of goods into particular countries.

Well, as Aite Group points out, information pertaining to the movement of goods can have a knock-on effect on a company's working capital:

"Tying the physical movement of goods to the financial activity surrounding them provides very valuable information to treasurers regarding expected cash flows;this is referred to as the “order-to-cash” cycle."

Not all banks, however, agree with JPMorgan's approach and some have questioned the value of the Vastera acquisition, particularly in terms of whether the bank will gain enough customers from the deal to recoup its investment.

JPMorgan's buying spree in the "order-to-cash" cycle has not stopped there. Recently it announced its acquisition of the business settlement network, Xign, which links suppliers with buyers. JPMorgan already worked with Xign, which provided the e-invoicing component for the bank's proprietary Order-to-Pay Solution. But by buying the business settlement network it has effectively shut out the other banks (Citi, Wachovia, Wells Fargo, et al) that Xign also worked with.

By fully acquiring Xign, JPMorgan Chase is positioned to take advantage of the wide and deep flows of information that are generated by Xign’s network and technology. Assuming JPMorgan Chase can tap into that data with the permission of the trading parties, they are positioned to leverage Xign’s capabilities in ways that other participating banks cannot," Aite Group writes.

For a 'conservative' Wall Street bank, JPMorgan appears to be 'thinking outside the box'. One senior exec within the bank remarked to me recently about the 'strange' things the bank was doing in terms of pursuing non-traditional business lines, including the Vastera acquisition and the bank's foray into document (invoices and cheques) printing and archiving.

It is no secret why banks want to embed themselves deeper into companies' supply chains; they want to make up for revenues lost through declining letter of credit volumes; and they also want the opportunity to sell financing to their customer's (the buyer) suppliers.

However, one has to ask whether some of the solutions banks are developing around the corporate supply chain are what companies are really looking for? Most corporates I have spoken to say they do not want banks to get more involved in their supply chains and that they understand their supply chains better than the banks.

So is all this 'hoopla' surrounding the corporate supply chain about what the banks want or is about solutions corporates are really looking for?

BoA eyes Barclays according to research note

Well it seems FinancialTech Insider was not wrong about Bank of America wanting to buy a European bank. But judging by this posting on a Financial Times blog, it is the UK's Barclays bank, which is the object of Bank of America's attentions.

Last week over lunch a source hinted at Bank of America still wanting to buy in Europe, to which I said, 'I suppose it is looking at a UK bank such as Barclays or Lloyds.' The source however, started steering me in the direction of a Spanish bank.

But according to the FT blog posting, a very confident Merrill Lynch research note seems to indicate that Barclays may be the favourite. Bank of America of course continues to remain elusive on the subject.