Synthetic prime brokerage has taken a greater share of JP Morgan’s total prime services revenues, as the bank pushes out less balance sheet-intensive products for hedge funds.
Also known as Delta One, it provides hedge funds with leveraged exposure to securities or a basket of securities through derivatives, the business accounted for nearly half of JP Morgan’s total global prime finance revenue in 2018, according to the bank’s Investor Day presentation on 26 February.
Troy Rohrbaugh, head of global markets for JP Morgan, explained that the bank has also shrunk the prime services balance sheet by 12% between 2014 and 2018, largely through “optimisation and synthetics.”
He said growth for the prime services business would continue to focus on synthetics and the Asia-Pacific market, where client balances have increased by 36% over four years.
Cash prime brokerage, in which the hedge fund owns the underlying instruments directly, remains the dominant revenue generator but its share for the business has dropped by nearly a quarter between 2014 and 2018.
Synthetic prime brokerage is being viewed as a more attractive option for hedge funds because it can help reduce capital and transaction costs through netting. It has become the service of choice for managers running alternative strategies on a large sample of assets, such as long/short (absolute return) funds.
Synthetic prime services include providing clients with access to total return swaps on single stocks, equity baskets and indexes; however, they cannot take up short positions for regulatory reasons.
The growth in synthetic prime brokerage, combined with the transition to more electronic execution products for hedge funds, has helped JP Morgan leapfrog Goldman Sachs in industry monitor Coalition’s prime brokerage rankings to second, behind Morgan Stanley.
Speaking to Global Custodian last year, JP Morgan’s head of prime brokerage, Jonathan Cossey, explained the electronification of its equities business has become more closely tied to prime brokerage.
“There has been a lot of focus on synthetic prime brokerage over the last three years, as well as DMA (direct market access) and execution into prime, which has been a forerunner of MiFID II and electronic execution services,” said Cossey.
“Going forward, the market will continue to look at ways to innovate and continue to offer efficiencies and/or pricing that prime clients can consume. Our aim is to see how best we can leverage prime across other products of the bank.”