In Brief

Goldman and Morgan risk losing star traders

Philip Delves Broughton on what the change in status of two top investment banks will mean

The swinging times are over for investment bankers. Today's news that the last big investment banks on Wall Street, Goldman Sachs and Morgan Stanley, will become bank holding companies, subject to the same level of regulation as America's high street banks, marks an end to an extraordinary run for these institutions.

It may be a while before you can get your hands on a Goldman Sachs chequebook or take out a Morgan Stanley mortgage. But eventually, these firms, which grew rich operating at stratospheric levels of finance, will have to engage in the humdrum business of ordinary retail banking - most likely by acquiring a few of the many regional banks suffering through the subprime crisis. The Masters of the Universe will have to learn to be bank managers.

The firms requested this change themselves as a means of self-preservation in the wake of last week's chaos on Wall Street. A run by investors brought the two banks to their knees, despite being relatively sound businesses.

The immediate impact will be tighter regulation and supervision and much less risk-taking. By becoming bank holding companies, both Goldman and Morgan will have to cut the leverage they have used to make such extraordinary profits.

Goldman today has $1 of capital for every $22 of assets, while Morgan Stanley's ratio is 1:30. Bank holding companies tend to borrow closer to 10 times their capital.

The immediate advantage is that the banks will now have access to the Federal Reserve's low-interest credit lines to help them through the financial whirlwind. In the longer term, they will have the cushion of customer deposits to help them through hard times.

In recent years, the greatest profits for both firms have come from trading with their own money. While the mergers and acquisitions folk trolled for deals, it was the traders who came to rule. The change was most evident at Goldman Sachs where Lloyd Blankfein, a career trader, succeeded Hank Paulson, a classic deal-making investment banker, as chief executive in 2006. The investment banks not only competed with each other, but also with the fast-growing and less heavily regulated hedge funds for both people and profits.

Today's change will likely hasten the departure of the best traders from the banks to hedge funds, where they can earn more and operate more freely. The next step for the government will be to decide what level of regulation to impose on them.

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