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Sean Hinton

The financial services industry includes firms that deal with the management, investment, transfer, and lending of money. Though every company handles money in the course of doing business, financial institutions actually make money their business; rather than selling a line of physical products, they offer customers their fiscal expertise. The industry itself is very large, encompassing everything from small, local banks to the multinational investment banks regularly featured in news headlines.

Sectors of the Financial Services Industry

Investment Banking

Investment banking technically refers to the area of corporate finance that helps large, institutional clients raise funds (by issuing securities for either equity or debt) and advises clients during mergers, acquisitions, and other financial transactions. Most of the firms considered to be leaders in this sector, however, aren't pure-play investment banks in this technical sense. The line between investment banks (or I-banks) and commercial banks has become blurred, with each dabbling in the other's traditional territory. Though I-banks have become increasingly diversified, they're still commonly referred to simply as "investment banks".

• Goldman Sachs Group (GS)
• Lehman Brothers Fin SA (LEH)
• Merrill Lynch (MER)
• Morgan Stanley (MS)
• Bear Stearns Companies (BSC)
• Credit Suisse Group (CS)

Private Equity

• Blackstone Group (BX)

Commercial Banking

Commercial banking includes firms that take deposits and make loans to customers, both corporate and individual. These companies offer much more than just checking accounts and auto loans, but the fact that they deal with the storage and lending of money is the basic factor that distinguishes them from other financial institutions.

• Wachovia (WB)
• Wells Fargo (WFC)
• Washington Mutual (WM)
• SunTrust Banks (STI)
• General Electric's Capital Services

"Money Center Banks"

So-called money center banks are massive firms that operate in several different areas of the financial services industry. Essentially commercial banks, these are the firms that have delved into investment banking, asset management, etc., in an attempt to become "one-stop shops" for their customers. This seems to have worked, as these companies are among the largest in the world.

• Citigroup (C)
• Bank of America (BAC)
• Barclays (BCS)
• J P Morgan Chase (JPM)
• HSBC Holdings (HBC)

Investment Services

• Janus Capital Group (JNS)
• T. Rowe Price Group (TROW)
• Prudential Financial (PRU)

Mortgage Companies

• Countrywide Financial (CFC)
• Federal National Mortgage Association (FNM)

Credit Card Issuers

• American Express Company (AXP)
• Capital One Financial (COF)
• Mastercard (MA)
• Discover Financial Services (DFS)

Brokerage Firms

• E*TRADE Financial (ETFC)
• Charles Schwab (SCHW)
• TD Ameritrade Holding (AMTD)
• State Street (STT)

Investment Research Providers

• Zacks Research
• PFC Energy
• Morningstar (MORN)
• Standard & Poor's
• aranca
• Interactive Data (IDC)
• Wikinvest

Exchanges

• NYSE Euronext (NYX)
• Chicago Mercantile Exchange Holdings (CME)
• Nasdaq Stock Market (NDAQ)
• Intercontinental Exchange (ICE)
• International Securities Exchange (ISE)

Debt- and Credit-rating Agencies

• Moody's (MCO)
• McGraw-Hill Companies (MHP)
• Equifax (EFX)

Money Transfers

• Western Union Company (WU)

Assurance/Guarantors

These companies makes money by insuring bonds against defaults and losses in value.

• MBIA (MBI)
• Ambac Financial Group (ABK)
• Financial Security Assurance Holdings (FSE)

Trends Affecting the Financial Services Industry

Rate cuts should stimulate economic activity

Interest rates are essentially the cost of borrowing money; as they fall, businesses are more likely to issue debt or equity, given that the price of borrowing has decreased. Interest rates have been fairly low since 2004, which has been a significant driver of business activities. In response to a growing credit crunch, the U.S. Federal Reserve's Open Market Committee has lowered both the discount rate (the rate at which banks lend money to one another) and the target federal funds rate (the rate at which money is lent to consumers) over the past few months. As of September 2008, the discount rate and federal funds rate stand at 2.25% and 2.0%, respectively. Financial services firms should benefit from these rate cuts as customers borrow more money.

Housing market slowdown hurting financial sector

A substantial slowdown in the housing market has been hitting the financial services industry. For companies such as Countrywide Financial (CFC) and Federal National Mortgage Association (FNM), the correlation between the housing market and revenue is clear. Its impact extends beyond mortgage lenders, however. The early to mid-2000s saw a rise in the popularity of mortgage-backed securities (MBS), whose values are tied to a pool of individual mortgages. This allows people to invest in the housing market while limiting their exposure to risk; rising defaults, however, have led to devaluation of many of these MBS. In addition, falling property values decrease total household wealth, which depresses consumer spending and borrowing.

Financial services highly sensitive to business cycles

Since the last major recession in 2001, financial services firms have been enjoying the benefits of an expanding economy. Though economic cycles affect the entire economy, companies in this sector are particularly sensitive to the impact of recessions. As people throughout the economy have less money, the demand for financial firms' services decreases substantially. On the flip side, a booming economy stimulates demand for these same services, providing a boost for companies involved in asset management, lending, investment advisory, etc. This is quantifiable using beta, or the correlation of a company's stock price in relation to the S&P 500. A beta value of 1 reflects a perfect correlation, a value of less than 1 means that the stock moves less than the S&P 500, and anything over 1 means that the company's stock will move even more than the industry average. Financial services firms often have a beta higher than 1, highlighting their sensitivity to the overall state of the economy.

Subprime fallout hitting financial industry

Fallout from the subprime lending bust has taken its toll on financial services firms' stock prices, reflecting investors' faltering confidence and decreased appetite for risk. The rising number of defaults among subprime borrowers caused many mortgage-backed securities to fall in value; funds with significant holdings of these securities saw their values plunge as a result. This includes even the elite investment banks on Wall Street, where a number of high-profile hedge funds hedge funds have gone belly up. Even more directly impacted are smaller mortgage lenders, dozens of which have gone bankrupt over the past year. The recent rate cuts should help contain the problem, though future resets of adjustable-rate mortgages could still lead to even more defaults.