Mention the word pipeline to anyone who has spent any amount of time writing about Wall Street, and you’ll get a knowing look.
At investment banks, it refers to deals that are yet to be announced, but are in the works behind the scenes.
Bankers will often say things like “the pipeline is looking great” to hint at better times ahead.
The reality, of course, is that very few people have visibility on that pipeline, and the flow of deals often never makes it through the metaphorical pipe.
I can’t count the number of times I’ve been told some variant of “the pipeline is strong,” only to have very few deals emerge. Still, analysts and Wall Street watchers pay attention to these comments in the hope that it might provide some insight on the future.
Well, Fitch now has some research showing why scepticism of the word pipeline, or backlog, another variant, is well placed.
The big five US banks – Goldman Sachs, Morgan Stanley, JPMorgan, Citigroup and Bank of America Merrill Lynch, all signalled strong investment banking backlogs in the third quarter of last year. Four of them said the same thing in the fourth quarter and the first quarter of this year.
Surprise, surprise, those positive comments haven’t really counted for much. Here’s Fitch:
In the study, Fitch found a low correlation between total IB revenue of the five US GTUBs — Bank of America, Citigroup, Goldman Sachs, JPMorgan Chase and Morgan Stanley — and the number of those banks citing IB backlog “strength” in the previous quarter’s earnings calls.
In other words, there isn’t a particularly strong relationship between bankers citing the strength of their pipeline, and actually deal activity.
But there is another, more accurate, predictor of future deal activity: the CBOE Volatility Index (VIX), Fitch says.
That makes sense. The VIX reflects expectations of volatility in the market. Volatility tends to delay deals.
Equity deals are harder to price when the VIX is above 20, for example. Companies don’t like doing deals when stock prices are swinging around wildly, lest the price they agreed look foolish in hindsight.
So really what this research shows is that bankers are in the same boat as traders: they’re dependent on market conditions. And predicting market conditions is pretty much impossible.
So if you hear someone citing the strength of their pipeline or backlog, give them a knowing look.