The market's loss of confidence in the abilities of broker-dealers to stay independent marks a historic moment on Wall Street. The end of independence for its most storied names concluded Sunday night when Goldman Sachs and Morgan Stanley asked to be regulated like other banks (i.e. they'll need deposits to back lending).
Right now, that is for the best. The I-banks will look more credible; their worst excesses contained by government oversight and hammered share prices. Still, in the years to come, we may miss them (even Bear Stearns and independent Merrill Lynch, and, yes, Lehman Bros.)
Innovation: It's easy to blame I-banks for the bubbles and bear markets over the last couple of decades. (Partly because it's their fault). But the Internet boom wouldn't have happened without the financing and support for public offerings pushed through by the names above. I-banks may be blasted for their short-term, profit-at-any-cost horizons, but they were the biggest game in town for funding mergers, IPOs, and start-ups. It's not clear who'll take their place to make long-term deals with the technological leaders of tomorrow. With I-banks hobbled by new oversights, they will perform those functions at a more cautious pace. At a time when the weak economy needs sophisticated financial leadership to foster new growth, the shake-up leaves an uncertain void for growing companies.
Securitization: The complex web of new language (CDOs, CLOs, credit default swaps, Tier 1 assets, etc.) that has come to represent the subprime crisis and Wall Street hubris is really code for what may be the only positive legacy of this meltdown, namely securitization. Slicing and dicing mortgage securities to the point where their value was so obscured we needed the government to step in with a $700 billion bailout is undoubtedly egregious. However, lessons learned in this crisis about risk management, regulation, and trading of securitized assets will be valuable after the worst passes. Remember, the failure to adequately price mortgages was more a failure by regulators and ratings agencies charged with that specific task. If they get some new teeth in the coming months, the benefits of the last decade of accumulated knowledge will eventually resurface.
Stability:Like them or not, the I-banks remained one of the last huge pools of American cash led by a handful of folks who could be called (or cajoled) into action by the government during a crisis with any degree of reliability. Basically, the Federal Reserve and the Treasury Department could get most of them in a room together when everything went south (unless Jimmy Cayne had a bridge game or something). As they lose clout and cash, financial power continues to shift away from American interests to foreign sovereign wealth funds, hedge funds, and private equity. More power and risk-taking now moves to parts of the market with even less transparency.
Now, I don't want the above to seem like a mea culpa for the tiny sliver of bankers who really did (and do) threaten the entire American economy. Their short-sighted greed caused many of the problems we'll continue to wrestle with in the housing markets, and they're the ones to blame if you wake up one day and can't get decent terms on a mortgage or small-business loan. Unfortunately, investment banks also provided vital skills that grease the wheels of American innovation. Sympathy may not be warranted, but acknowledging what the end of this era really means may be.