U.S. presidential candidates are all set to face the elections that are scheduled to take place today. According to a Gallup survey, this election will be neck to neck, as ratings for Mitt Romney and U.S. President Barack Obama are as close as 49% and 48%, respectively. Nevertheless, changes in fiscal and foreign policy are expected aftermaths of this election.
The general view is that if Romney wins the elections, his fiscal policy will lead to higher corporate profits, which would stimulate U.S. equity markets. Obama has proposed cutting back on military spending, Medicare, federal pensions and farm subsidies, meaning a potential slower economic growth.
Another distinguishing factor between the two candidates is their stance on the Dodd-Frank act. In order to support his stance favoring smaller banks in the U.S., President Obama signed the Dodd-Frank act in 2010 to curtail the activities of large cap U.S. banks. Romney, on the other hand, has disclosed that he will revamp the act, particularly the Volcker rule, which imposes restrictions on trading activities conducted by large cap U.S. banks. Besides benefiting large cap banks, such a move will also benefit U.S. regional and community banks. Therefore, there is obvious support from the Wall Street, particularly from U.S. large cap banks, for the Republican candidate. Banks like Goldman Sachs (GS), Bank of America (BAC), Morgan Stanley (MS) and JPMorgan (JPM) are some of the top campaign contributors for Romney.
The Volcker Rule, which aims to check proprietary trading, has the ability to slash revenues from fixed income trading for large cap U.S. banks by about 25%. It is also expected to eliminate annual profits of up to $10 billion for U.S. banks. Since a significant portion of the revenue of Goldman Sachs and Morgan Stanley comes from proprietary trading, we believe both the banks will benefit from a Republican win.
Around 34% of the bank's entire revenues were coming from principal trading activities, at the end of the second quarter, while, during the third quarter, the bank's proprietary trading desk contributed significantly towards the top and bottom lines. The desk earned $1.8 billion for the bank during the third quarter of the current year. The bank had to exit part of its holdings in hedge funds, while, in compliance with the rule, the bank intends to exit 10% of its holdings in several hedge funds by 2014 end. If Obama stays in power, Goldman Sachs will lose 52% of its investment banking revenues.
The bank posted better than expected results for the third quarter of the current year, with revenues increasing 26% sequentially, and the bottom line increasing by 57%. The bank maintains a strong capital base, with a tier 1 capital ratio of 15% and a tier 1 common capital ratio of 13.1%. In comparison, JPMorgan, the largest bank by assets, had a Tier 1 capital ratio of 11.9% and a Tier 1 common capital ratio of 10.4%.
Around 44% of the bank's entire revenues for the year 2011 came from proprietary trading activities. Volcker rule is also restricting the capital Morgan Stanley can allocate to its global infrastructure fund. The bank wants to allocate 10% of capital to new private equity funds, whereas the rule allows a maximum of 3%. This will put the bank at a disadvantage with respect to other asset management companies such as Carlyle Group LP and Blackstone Group LP.
The bank reported stronger than expected performance for its third quarter. Revenues increased 19%, while earnings advanced 17% compared to its respective estimates. Revenues from fixed income trading were said to be the reason behind such an unexpected performance. The bank posted a larger fixed income trading increase compared to most of its peers. Revenues from fixed income trading surged 89% for MS, compared to 63% and 33% for Citigroup (C) and JPMorgan, respectively.
The bank also maintains a strong capital base compared to JPM. Morgan Stanley had a tier 1 capital ratio of 16.7% and a tier 1 common capital ratio of 13.7% at the end of the third quarter of the current year.
Other U.S. money center banks have less to fear in the event that Obama stays in power. Less than 10% of the revenues of Citigroup, JPMorgan and Bank of America accrue from proprietary trading activities.
In conclusion, we believe that if Mitt Romney, the Republican candidate, wins the elections and repeals the Volcker rule, U.S. financials will be among the major beneficiaries, particularly Goldman Sachs and Morgan Stanley.