NEW YORK (Reuters) - The biggest global banks will have to take steps in the coming years, including cutting compensation and shedding services, to generate adequate returns for their shareholders, consulting firm McKinsey & Co. said on Wednesday.
Even as the global economy grows, new banking regulations will cut into profits so much that banks will earn returns on equity between 6 and 9 percent by 2017, according to McKinsey’s forecasts in a report on the banking industry.
Return on equity - a key metric for how effectively banks are wringing profit from shareholder money- was at least in the mid-teens for many banks before the 2008 financial crisis.
“The impact of regulation will be a continued headwind,” Kevin Buehler, a director at McKinsey and one of the authors of the report, told Reuters.
The firm noted that the Volcker Rule, which limits banks from betting with their own capital, and Basel III capital rules will likely be among the biggest drags on profitability.
New banking rules are designed to prevent the next financial crisis. Banks’ poor lending practices, bond underwriting, and risk management last decade contributed to the near collapse of the global financial system and a protracted global recession.
But new rules will also cut into profitability, and with low returns, the top 13 banks must take measures like eliminating unprofitable products and cutting employee compensation, McKinsey said.
Wall Street compensation has been a hot topic among shareholders and management alike in recent weeks. Goldman Sachs Group Inc GS.N said last week it was paying only about 38 percent of its revenue to employees, the second lowest percentage since the bank went public in 1999, after investors pressured the bank to reduce payouts.
JPMorgan Chase JPM.N chief executive Jamie Dimon’s 2012 bonus was cut in half as a result of the bank’s $6.2 billion trading losses. Meanwhile, Daniel Loeb, who runs hedge fund firm Third Point LLC, criticized board compensation at Morgan Stanley MS.N in his latest letter to clients.
McKinsey’s return on equity forecast of 6 to 9 percent by 2017 assumes that big banks will benefit from cost cuts and balance sheet shrinking that they have already announced, and that global economic recovery will add to banking revenue.
Without taking into account revenue growth or the cost cuts and risk reductions, McKinsey’s return on equity estimate for 2017 is just 4 percent.
“It would be poor economic performance for the industry,” Buehler said.
As a strategy consulting firm, McKinsey receives fees by helping companies reshape themselves.
Reporting by Sam Forgione; Editing by Daniel Wilchins and Bob Burgdorfer