The U.S. securities industry enjoyed a strong earnings rebound last year, while Canadian industry profits were more or less flat — differences in the underling economies, markets, and the industry, explain the disparity, says the Investment Industry Association of Canada (IIAC).
In his latest letter to the industry IIAC president and CEO, Ian Russell, aims to explain the divergent performances of the Canadian and U.S. securities industries. It says that while firms on both sides of the border suffered a hit from the financial crisis in 2008, which led to increased volatility, and significant regulatory reform, earnings performance has been notably different, “reflecting indigenous market conditions and structural differences in the respective industries.”
The IIAC says that while profits were hit hard in the immediate aftermath of the crisis, the Canadian industry recovered quickly in 2009-2010, “led by strengthening commodities markets and related financing and securities trading.” Net profit for Canadian firms jumped 53% in 2009, following a 32% drop in 2008, it notes.
Whereas, the U.S. industry saw progressively weaker profitability throughout this period. But in 2012, “the profit picture in the U.S. industry decisively reversed course while in Canada profits moved lower in 2011 and 2012,” it notes.
“The marked difference in profit performance for the respective industries last year largely reflects the differing movement in domestic equity markets that drives institutional and retail business at the integrated and specialized firms,” it says, with Canadian markets rebounding in 2009 and 2010, before retracing those gains in 2011 through 2012, taking industry profits down in the process.
In the U.S. by contrast, equity markets skidded through 2009-2010, but began rebounding by mid 2011. In 2012, the S&P Composite Index was up 13%, compared with a 4% increase in the S&P TSX Composite Index. As a result, net profit for the U.S. industry rebounded dramatically last year, up 124%, the IIAC says.
Industry-specific factors have also contributed to the difference in earning performance in recent years, it notes. For instance, small U.S. firms have “moved en masse to rely on carrying firm platforms reflecting the costs of self-clearing and the related escalation in capital charges and other regulatory requirements. However, in Canada, more than half of the small firms are still self clearers,” it says.
It notes that U.S. carrying brokers, such as Schwab, Fidelity, Pershing, First Clearing, and TD Ameritrade “provide effective and comprehensive business and compliance support” along with other services, such as advisor recruiting. “The U.S. carrying firms are also prepared to take on the compliance burden for small firms, unlike their Canadian counterparts,” it says, adding that the U.S. regulatory system is also more flexible in allowing the outsourcing of compliance.
Moreover, U.S. firms and advisors have assets under management, and average account sizes that are about double those in Canada. The U.S. industry has also capitalized on the shift towards discretionary managed accounts, it notes. And, it has already been through a wave of consolidation that has yet to hit Canadian firms.
The IIAC notes that about 10% of U.S. firms have closed operations in the past five years; and, larger firms in the U.S. have also bid aggressively for advisors, putting increased pressure on the industry’s small firms.
In Canada, the pace of consolidation has been slower, with only two firms exiting the business in the past four years, it says. But here too, the larger integrated firms have bid aggressively for top performing brokers, putting additional pressure on the small firms, it notes.
“Unless market conditions continue to improve, and corporate issuers and institutional and retail investors engage more actively in the markets boosting earnings performance, more acquisitions and firm closures are on the horizon,” the IIAC concludes.