Fireside Friday with… Northern Trust’s Gerard Walsh

Following a littering of mergers and acquisitions announcements in the last few weeks, Northern Trust’s global head of capital markets client solutions, Gerard Walsh, sits down with The TRADE to explore why this consolidation is happening now and what it might mean for the markets.

Why do you think we are seeing this flurry of M&A activity now?

It’s a chase for capability. There’s a number of different dynamics in play. Firms are chasing capability to plug gaps. There’s been a little bit of medium sized firms getting together to create bigger firms, which is a scale play. There’s clearly some pursuit of the value chain, with firms trying to get into different parts of the life cycle of revenue opportunities across the entire spectrum of activities around asset management and the financial services industry. Firms are looking for ways to chase revenue synergies.

Lots of traditional case studies would suggest that if firms do M&A they are trying to drive out costs but actually I think modern M&A is much more about revenue synergies – so taking a look at your revenue flow as an organisation and the competitive landscape and then looking for ways in which you can plug in different capabilities to add revenue to your own platform. The traditional concept of huddling together for warmth traditionally has always been about two smaller firms getting together so that they’re bigger. But now that also applies these days to highly capable teams who are being lifted out to join much bigger organisations. You get a much bigger umbrella and much more air cover for the things that you want to do rather than being a high performing team or highly capable group of individuals within an organisation that might be facing its own challenges.

How will this impact the way that the markets operate?

I think that you will see more full service and more scale players emerge with more ways for the financial services industry to interact with them that suit the buyer of the proposition. For a very long time, the industry has been very product driven and we’re now seeing scale players drive towards solution sets. Some of those are based on a technology footprint or a capability footprint, or even something as simple as a massive technological application. But out of the back of that, what I think we’re seeing now is a drive towards the possibility of delivering multiple layers of solutions which unpick entire revenue synergies and expose and make transparent layers of cost as opposed to just the replacement cycle of a product.

We’re moving towards a world where the buyer of the services – buy side managers and sell-side solutions providers – will inevitably spend a whole heap of time analysing and identifying problems that need solutions and then they’ll go to the market for as many of those solutions from the fewest numbers of providers as is possible. We’re migrating towards buyers saying tell me about your entire life cycle solution and tell me how you would partner with me to implement these. If a client has a certain number of problems, they’ll ask providers what solutions have you got for me to solve as many of those in one go as possible?

How do you think this will impact demand for outsourcing?

It is always important to bear in mind that the financial services industry is expert at outsourcing. They do it at all points in the investment life cycle. The intellectual capability and scale that these mega solutions providers can bring to the table when you’re contemplating problem solving driven change will not just be around replacing one section of pipe under a road in London anymore, you’re looking at all of the leaky pipes.

There’ll be a real focus driven by expertise on both sides on analysing what’s fixed costs and what’s variable. You’ll then see a focus on activities that drive alpha and revenue. Firms will want to manage the things that are VIP. You end up in a situation where asset managers will want to manage the distribution profile and they may even contract out some of that distribution activity. They’ll want to manage the activity of driving alpha and their portfolio management activities and their funds and then they’ll consider everything else as rentable from the market and therefore they will go for a lower fixed cost model and a heavier variable cost model. The appetite for outsourcing will extend into places that were previously regarded as a VIP. You’ll see a capability and a skill set change towards governance and oversight and control of the things that you’ve got a fiduciary or a regulatory duty to deliver. The important part is working out what is VIP to the people who pay firms to run money.

Do you think institutions will eventually offer services across the full life cycle of a trade?

Take the analogy of a bakery. There are a million baked goods in front of you in the glass cabinet but in actual fact, within that bakery there are specialisms. It’s the same with solutions providers. Some will be very good at technology plays,some will be expert at service and some will be expert in regions. The layers will be differentiated and you will see those layers coagulate around scale because institutions will have the size to offer a global solutions proposition and then a regional or local one.

What do you think the impact will be on best execution of this consolidation?

Best execution will continue to see enhancement. We’ll continue to see models whereby some solutions providers in the trading environment choose to do it themselves, but I also anticipate that it will move into areas where it hasn’t been as deep as in the equities world. I wouldn’t be surprised to see bond trading and FX trading move into a more equities like best execution and TCA world simply because I think if you look at the trillions and trillions of dollars that are traded annually in those two markets versus the equities one, you’ve almost exhausted the possibility of driving better performance out of best X and equities. You’re now talking about an enhancement of a well understood model. In the FX and the bond trading worlds there is still transparency to be pursued in those trading models.