Wall Street traders set to profit again as Fed cuts asset purchases

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Wall Street traders set to profit again as Fed cuts asset purchases

NEW YORK Reuters: Wall Street banks have been among the biggest beneficiaries of the pandemic-era trading boom, fuelled by the Federal Reserve's massive injection of cash into financial markets.

With the central bank nearing the time when it will start endanger its asset purchases, banks are set to profit again as rising volatility encourages clients to buy and sell more stocks and bonds, analysts, investors and executives say.

Since March 2020, the Fed has been buying government-backed bonds, adding $2 trillion to its balance sheet as part of an emergency response to the COVID - 19 pandemic.

The strategy was designed to stabilize the financial markets and ensure investors had sufficient access to capital. It was successful, but also resulted in the highest levels of liquidity, helping equity and bond traders enjoy their most profitable period since 2007 - 09 financial crisis.

The top five Wall Street investment banks - JP Morgan Chase Co, Goldman Sachs, Bank of America, Morgan Stanley and Citigroup - made an additional $51 billion in trading revenues last year and in the first three quarters of 2021, compared with the comparative quarters in the year prior to COVID according to company earnings statements.

The trading bonanza, along with a boom in global transaction making, has helped bank stocks outperform the broader market. The S&P 500 index has risen by 40% in the year-to-date compared with a significant decline in the KBW Bank index.

Now, banks with large trading businesses are expected to profit a second time as the Fed starts withdrawing the stimulus, prompting investors to rejig their portfolios again.

As investors look to make a position on volatility, that creates an opportunity for us to post for them. And of course, this would lend itself to improved performance, Citigroup CEO Mark Mason told reporters in this week.

Fed Chair Jerome Powell signaled in late September that the tapering was imminent. An official announcement is expected in November and the central bank has signaled it will look to stop asset purchases completely by mid 2022 - a timetable seen as aggressive by some investors.

Banks have already benefited from enhanced volatility since Powell's comments in late September, which led to a spike in Treasury yields and a decline in equity markets. That led to a pick-up in trading volumes at the end of the third quarter and the beginning of the fourth quarter, executives say.

At that time, the Fed's decision to demonetize quantitative easing sent markets into a frenzy as investors dumped riskier assets in favor of'safe havens, leading to a spike in government bond yields and sharp falls in equity markets.

Fed officials are confident of avoiding this scenario this time around by giving the markets enough advance warning about their intentions.

The sweet spot is where you have some volatility but not enough to disrupt broader capital markets which have been an important contributor to healthy trading results over the past year, said JMP Securities analyst Devin Ryan.

Third-quarter results from the biggest U.S. banks this week showed strong performances in equities trading, boosted by stocks hitting record highs, but a more subdued showing in bond trading reflecting calm in those markets.

Investors are anticipating activity will ramp up again in the run-up to absorption when it eventually begins.

It will certainly be a positive, says Patrick Kaser of Brandywine Global Investment Management. Volatility is a friend for trading companies.