How Death of Investment Banking Will Affect Emerging Markets

Investors woke up this morning to a new era on Wall Street.

The last two big investment banks, Goldman Sachs (NYSE:GS) and Morgan Stanley (NYSE:MS), have abandoned their freewheeling, frat-boy days to become bank holding companies. The move puts them under stricter Federal regulation. More important, they will now look to more conservative sources of money – such as customer deposits – over highly leveraged trading bets.

What remains to be seen, though, is whether the shift could dam up a torrent of money flowing into emerging markets.

Back in the day, emerging markets were the place for investment bankers to wheel and deal. Asia, the Middle East and Latin America became increasingly reliant on this Wall Street money.

Since 2005, both the share and percentage of emerging-market investment banking saw dramatic growth. In 2005, investment-banking revenue from emerging markets accounted for almost $40 billion, or 16% of the global investment-banking revenue total. Those figures increased to just over $78 billion, a 21% share of the total in 2007, according to the McKinsey Quarterly.

When the results of this study were published in August 2008, it forecast that emerging markets’ share of investment banking revenue would soar to 28%-30% by 2010. That translated into a cash infusion of somewhere between $40 and $115 billion by 2010.

Even if European investment banks became more aggressive in emerging markets, the cash shortfall would still be painful. We saw emerging markets tank with the credit crunch. Now the future has turned more uncertain.

It’s also conceivable that the filthy rich Sovereign Wealth Fund of the Middle East and Asia could plug the gap.

At this point in time, it would be best to take a wait-and-see approach to investing in any emerging market funds. If you feel compelled to take a position in an emerging market, you may be better off finding a great company with a lot of promise.

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