by Brian DeChesare Comments (53)

Did Europe Just Ban Investment Banking? And More on New Financial Reform

Financial ReformI very, very rarely write news-style articles on this site, but when a bank fails, multiple banks fail, or something else big happens this rule gets broken.

And the recent financial reform that has passed / is in the process of being passed falls into that last category of something big happening.

So let’s see what just happened, whether or not the finance industry will survive, and how your bonus will be affected.

What Happened

First, everything here is as of July 14, 2010 in case you happen to be reading this at a later date.

In the US, the House of Representatives passed financial reform legislation that includes these key points:

  1. The government now has broader authority to liquidate insolvent firms.
  2. There are more regulatory and risk management requirements.
  3. There are new limitations on prop trading, derivatives, and PE/HF investing and only 3% of a bank’s capital can be invested in private equity firms and hedge funds.

(And yes, I’m aware of the consumer protection provisions but we’re just focused on investment banking-relevant changes here.)

The Senate is expected to pass the same legislation shortly.


But if you thought that sounded bad, it’s far worse in Europe – here’s what you got over there:

  1. 40-60% of bonuses must be deferred for at least 3 years.
  2. Only 30% of the total bonus can be paid in cash upfront.
  3. At least 50% of the total payout must be in the form of stock.


And yes, you’re reading that right: not only will around 50% of bankers’ bonuses be deferred years into the future, their cash bonuses will now be tiny as well.

What They Thought Would Happen

The European legislation came as more of a shock because there was so much focus on the US and the potentially disastrous consequences there:

  • Originally, they were going to ban all PE and HF investing by banks.
  • Originally, all derivatives might have been banned rather than just certain classes of derivatives.
  • Originally, banks would have had to pay $17.9 billion in fees.

So the final legislation was watered down considerably from these early proposals.

Banks responded by ramping up their hiring efforts.

How This Affects You

In the US, these new regulations are much more worrisome if you’re on the sales & trading side or you’re working at an internal PE fund or hedge fund.

There are no bonus caps similar to what was passed in Europe, so this reform won’t directly impact you if you’re in a front-office investment banking role.

If you’re at a private equity firm or hedge fund at a bank, well, you should now be thinking about your Plan B options.

Technically they can still exist, but 3% of a bank’s capital is very little to invest.

On the trading side, some banks are getting around restrictions by re-assigning prop traders to client-facing flow trading desks instead.

So that’s one possible outcome – although you may still be doing prop trading due to some clever loopholes (more on that below).

And In Europe…

So what happens in Europe with all these bonus restrictions?

The obvious answer is that banks will raise their base salaries to compensate for lower bonuses – but that logic doesn’t quite hold up 100%.

The bonus system works because banks must see what the full year’s results look like before handing out large piles of cash.

If analysts make a $70K base salary and $50K bonus – hypothetical numbers – banks cannot just raise base salaries to $120K to get around these new rules.

They may bring them closer to $100K, but beyond that it’s too risky to make base salaries exactly equivalent without knowing what the full year looks like.

And it’s even worse for the senior bankers who make high 6-figure and 7-figure bonuses – there’s no way base salaries will come close to compensating for those.

All of this also ignores the fact that 50% of your bonus will be deferred for several years – an issue for junior analysts who often leave after 2-3 years.

So What Happens to Bankers in Europe?

Even with significantly lower bonuses, it’s safe to say that no one will go out and get a real job – finance still pays more than anything else.

Instead, more and more talent may migrate to the US, Asia, and emerging markets where pay is higher and regulations are less burdensome.

Got Loopholes?

Of course, there’s also no guarantee that any of this will be implemented as it has been reported.

Maybe the bonus restrictions will only apply to certain bankers or certain groups, maybe they will find another way to pay salaries or bonuses that gets around the restrictions…

There’s always a gap between resolutions that get passed in the EU Parliament / US Congress and the implementation, and with this type of reform the gap will be even wider.

In the US, meanwhile, banks are simply moving traders from prop trading desks to client-facing flow trading desks to skirt around the new regulations.

And even if firms can only invest 3% of their tangible common equity in hedge funds and PE funds, they can take their sweet time selling off their existing divisions.

So it’s safe to say that even with new regulations in place, banks will find loopholes to reduce the impact.

Will It Work?

If you care more about the global economy than banker bonuses (What? Seriously, why are you reading this site?), you might be wondering whether or not these proposals will prevent another financial crisis from happening.

They may help a bit, but overall governments have placed far too much blame on banks and ignored everyone else who played a part in the crisis.

Yes, credit default swaps contributed, but what about predatory lending, people buying houses they couldn’t afford, and the Fannie Mae and Freddie Mac debacles?

These new regulations might lessen the impact of another 2008 meltdown – but does anyone seriously expect the next crisis to resemble this past one at all?

So, What Now?

Other than, “Pay will be down, but still higher than other professions” it’s hard to say much without seeing how these new rules are implemented.

If you’re interested in trading, hedge funds and prop trading firms suddenly look a lot better than large banks.

Few people do PE internally at banks vs. real PE firms anyway, but the same deal applies there.

The European reforms seem the most serious, but you may not want to pack up and leave just yet: they probably won’t be implemented as they appear, there will be loopholes, and who knows how many bankers will actually be affected.

Still, there’s no denying that bonuses are heading south – but did you expect anything different?

M&I - Brian

About the Author

Brian DeChesare is the Founder of Mergers & Inquisitions and Breaking Into Wall Street. In his spare time, he enjoys memorizing obscure Excel functions, editing resumes, obsessing over TV shows, traveling like a drug dealer, and defeating Sauron.

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  1. Hey,

    I was wondering how would you answer an interview question on, how financial regulation would affect investment banks?

    1. Prop trading is gone or on a steep decline, as is PE/HF within banks… front-office investment banking itself will not be affected too much but overall pay will be down due to the higher cost of regulation

      1. I read a report about how JPMorgan had cut 50 jobs in the commodities sector and it could turn into a trend, picked up by other banks as well. Do you think we are going to see job losses in the commodities market now that the regulation bill has been introduced?

        1. That might happen, yes.

  2. Konstantin

    It’s Friday 1:30 am here in Europe, and I was taking a casual break from transforming excel into powerpoint, when I stumbled upon this site, and I have to admit it is pretty good read. Now what seemed like an eternity till “first thing in the morning” has dwindled into few-hours-and-300-slides-remaining, so I’ll conclude with this.

    Investment banking is safe in Europe. Brussels always works like that – the start with some grand proposal, so that when it is watered down to lobbyist, they still have something to hold on to. There will be a bill passed at some point, but it will be far from sweeping. French and German may never say it out loud, but they know all too well that London is EU’s only chance to compete with New York as a global financial capital. La Donna e mobile, as so is talent, so they are wiser than to chase it away.

    1. We’ll see what happens – I’ve been hearing that many firms are shifting away from the UK due to increasing taxes as well.

  3. Interesting read.

    Where do these reforms leave an associate placed in commodity assuming shes working at a bank like Morgan Stanley / JP morgan? I can see her bonus is soon going to be extinct but are their jobs in danger as well?

    1. Not necessarily – unclear how the regulation will play out. I think their roles may shift but the jobs will still exist in some form.

      1. As I understand, goldman and Morgan Stanley, the largest commodity dealers, already have a separate swap desk for their commodity section. An associate or a VP in one of these banks will be relatively more secure than SAY jp Morgan? Or do I have it wrong?

        1. I honestly do not know enough to comment on this – my knowledge of trading is not great. And most predictions have a habit of not coming true anyway.

          1. Thanks anyway. I enjoy reading your posts.

  4. What is a client-facing flow desk in trading?

  5. Does the 3% rule mean that the cumulative PE and HF unit must be lower than 3% of the bank’s capital or that PE and HF must each be less than 3% of the bank’s capital?

    1. I believe it is cumulative.

  6. You wrote:

    “There are new limitations on prop trading, derivatives, and PE/HF investing and only 3% of a bank’s capital can be invested in private equity firms and hedge funds.”

    Now I may be reading this too literally (in which case this is a stupid post and I apologize), but it sounds like the regulation indicates that a bank can only invest 3% in PE firms and Hedge funds – e.g. as a secondary. The regulation itself does not explicitly state that a bank cannot commit more than 3% of their capital into making principal investments in private entities or take active positions in equities (or other underliers depending on the fund strategy). If this is the case, it seems like Washington’s failure to understand the financial markets have created their own loophole.

    (Unless of course you paraphrased the regulation and I took your words too literally.) I suspect this is the case, but I thought it at least worth clarifying.

    As always a great post – long time reader, first time commenter here.

    1. I’m not sure of that one, you would think that they understand enough to be able to prevent loopholes like that. I’d read the bill and let you know for sure, but it’s 2,300 pages…

  7. boysniterider

    Hi Brian,
    Do i have to put my references in the IB resume?


  8. Positive Carry

    Wait a minute… So it’s still uncertain if junior people will be affected as well? Why wouldn’t they if the rule applies to an entire bank? Is this just BB’s (or banks being bigger then some financial large cap measurement) or does this affect boutiques as well? And if so, does this affect M&A/industrial bankers just as much as traders?

    FFS, mortage traders ruined my life!

    1. Junior people might not be affected because those rules may only apply to bonuses above a limit (e.g. 100k..if you’re making that kind of money as a junior employee, you deserve to be fucked over :) jkjk)

      i think it affects M&A bankers in the sense that the firm as a whole may be less profitable..hence there’ll be less money to distribute. i don’t think boutiques that don’t engage in trading will be affected, they don’t pose a threat to the economy. then again, these days you never know..they might just tax everyone extra for having an economics degree

    2. Nothing has been implemented yet so no one knows – and the exact language is vague. That’s just how legislation / politics works. My guess is that M&A / industry bankers will be less affected than traders and that smaller banks will be less affected than large ones, but those are just guesses.

  9. a little off-topic, but what’s the bonus structure in continental europe like (i.e. frankfurt, paris, zurich etc.)? i hear base salary is pretty much the same everywhere, but do analysts in continental europe get the same bonus (percentage of base salary) as bankers in nyc and london?

    1. It’s similar to NYC / London – exact bonus %s may not be exactly the same but it’s not too far off, bonuses are probably a bit less overall in smaller cities.

  10. dude is unpaid internship even worth it?
    i feel like im wasting my time, gas, money, life and its really discouraging when everyone is making big chunk of money…

    1. If you have no better paid options, then yes an unpaid internship is worth it.

  11. Shawn P.

    This could possibly mean competition for the junior positions may decrease due to people interpreting the refrom as “the death sentence” (similar to your pic, haha) and won’t bother applying.

    On the flip side, those European Analysts may spike the number of applications to the Bulge Brackets, which is more likely?

    One thing is clear though, no more models and bottles :( Even though those models were pretty average ugly.

    1. Hard to say, but usually any decrease in pay reduces the number of people applying.

  12. If proprietary trading is what I eventually want to do, would it be better to try to get straight into a top proprietary trading firm after college or try getting into trading at a BB for a couple of years and then transferring to a prop shop or an HF for the sake of having the name on my resume among other reasons?

    I’ve listened to your interview with Jerry and learned that prop shops (although maybe not the top ones like JS, DRW, etc.) are generally easier to get into than trading at BB but have less job security. I’ve also heard elsewhere that only the top traders at banks go into prop trading. Is it not possible to get into prop trading roles at BB straight from college?

    I know you said that you’ve always wanted to start your own company and that you got into IB knowing that you weren’t going to stay for the long term. Do you consider yourself better off for having gone through IB? You obviously couldn’t have started this website if it wasn’t for your experience but looking back, do you ever think that maybe starting something without going through IB in the first place might have been better? Do you think it was a good choice doing something else for the sake of positioning yourself before going for what you really wanted because frankly, that is how I feel about being at college. I am not learning much that is useful and wouldn’t really be here unless it was for the sake of getting a job afterward. So would you suggest going for a agency trading or flow trading at a BB then eventually moving to a prop trading role somewhere else?

    1. Perhaps I should direct the above question to both you and Jerry…

    2. With these new rules in place, I would suggest going to a top prop trading firm first these days. The BB name might help a bit, but honestly if you want to do prop trading anyway no one gives a crap about prestige… all that matters is how much money you make. And you can get into these roles out of college, though maybe not quite as much at large banks.

      The only way banking helped me at all is with the specific subject matter here – everything else in terms of marketing, creating, selling products etc. had no overlap.

      1. I noticed the prop trading firms are mostly pretty small. Is networking still very important or even more important in this case?

        1. I don’t know about “more important” but yes, if a firm is small then networking may be your only way in.

  13. hello there, glad you wrote an article about the european situation.

    by the way, did you have the time to review the pictures (comics) i sent you? what do you think of it?

    1. Yes but busy traveling, I will respond in the next few days

  14. I’m a bit confused as to the rationale for the 3% limitation on PE/HF at banks. What exactly makes in-house PE/HF so risky for a bank? Am I missing something?

    1. The argument is, “Banks have lots of capital and PE/HFs at banks do risky things. Since they have a lot of capital, that makes it even more risky!” (even though very little of that capital is used for PE/HF investing). This is what you get when clueless politicians attempt to understand finance…

  15. I think the one big winner of the EU regulations is going to be Switzerland. No taxes on capital gains and low taxes in general have always made it an attractive place for finance — now it’s going to be even more attractive. In fact, some of the biggest British hedge funds have already announced to move or already moved to Zurich and Geneva (I know this is about banking and not HF but the sentiments are similar)

    1. That’s a great point – I saw something similar about Norway for the same reasons the other day.

      1. Norway? Really? Last I heard the gov was planning to implement the same type of legislation as the rest of Europe only applicable to a wider range of financial services companies..

  16. european bonuses

    actually only bonuses in sales/trading and on senior partner level will be deferred. so analysts, associates and vps will be fine and get their bonuses in cash.
    so only “risk-takers” and business developers will be affected.

    1. I agree that it will affect senior bankers more, but it’s a little premature to say which levels exactly will be affected. In fact, this letter from the Vice Chair of Economic and Monetary Affairs states directly that juniors may be affected as well –

  17. the bonus regulation, is it for juniors as well? doesn’t it only apply to bonus > $50k ?

    1. It’s unclear from the language at this point – if you look at certain statements they imply that juniors will be affected ( while others don’t.

  18. Anonymouse

    What if Goldman etc. set up a separate entity to do all of their PE/HF activities and financed that just as if it was internal – wouldn’t that be completely the same?

    1. That is one loophole, but I have a feeling regulators would catch on pretty quickly so they may do something more complex to get around it.

  19. Beaver Cleaver

    New Financial Reform Law will Regulate Hedge Trimmers – not Hedge Funds. Obama says public too naive to understand. SHOCKING details are at:

    Peace! :-)

    1. Haha good one

  20. Does this mean that Goldman Sachs Capital Partners can only trade 3% of Goldman’s capital? As one of the largest PE firms wouldn’t this have quite a pronounced impact?


    1. Yes, that is why most banks will be moving to sell / greatly reduce their PE groups and why I suggested Plan B options if you’re in that position.

  21. In today’s FT, there’s a letter to the editor by a vice-chair in the EU parliament: economic and monetary affairs committe.

    She basically says that the law is clearly addressed to all the staff whose activities affect the risk profile of their institutions.

    Therefore, I find it unlikely that associates and analysts (unless they are in trading positions) are going to be affected too much.

    1. Agreed. Still, I think there may be a bit of a “trickle-down” effect from there being less money to go around in general.

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