Forget the recent bankruptcy of Lehman Brothers and the fire sales of Bear Stearns and Merrill Lynch. Now is a great time to start a broker-dealer, says Jason Rok. Rok, formerly COO at JNF Asset Management and previously a managing director at Cantor Fitzgerald, is currently consulting. Over the last 23 years, he has launched, built, managed and operated various businesses ranging from hedge funds to structured finance. Rok recently spoke with TheStreet.com and explained why he sees opportunity in this market instead of despair. TheStreet.com: What motivates finance executives to leave a comfortable, secure job in this environment to start up something new? Rok: There are a lot of creative people leaving old jobs to start to start new firms. Some of these people were squeezed out of there old firms but many are just choosing to leave because they don't like the direction or rules at their old institutions. Let's face it, Wall Street is full of people that constantly evaluate markets in search of an opportunity and this is no different.
Why now? We've seen the demise of Bear Stearns, which was sold to JPMorgan Chase (JPM), and Lehman Brothers' bankruptcy. Merrill Lynch was sold in a fire sale to Bank of America (BAC). It seems like the industry is contracting, not expanding. There have always been firms opening and closing on Wall Street. However, many of the traditional barriers have changed because the dynamics of the market have changed and it has become a much more level playing field as a result. First, acquiring talent is easier because people either want to or need to make a change so you don't have to offer guarantees for them to leave their old job and to take a chance on a new firm. Less capital is needed because everyone is reducing risk and moving towards more of a riskless principal model. Even those positioning bonds don't need to take excessive risk to make a trade happen.
But with all the scandals, won't clients be hesitant to give their money to an unknown entity? Clients are more willing to speak with new or small shops because they are looking for liquidity. Previously these clients may have told these new shops that they were already over covered or that the new firm was too small. The costs, though, have to be high. How can a new firm make money from the start? There's clearing costs, legal costs and not so many clients. With the
wide spreads available in trades today, firms can make more money on fewer or smaller transactions. Much of your infrastructure and support can be outsourced. Plus, these firms are using a commission model to reduce cost and make the businesses more scalable. The ability to leverage, yield curves and credit spreads also create opportunity for those firms looking to hold assets on their books. So the opportunities actually extend beyond the broker dealer model and are available in to other types of entities as well. There has been an increase in government programs to assist established firms. Can any of these programs be used for new firms? Depending on the type of entity, there is money available through Public Private Investment Program, Term Asset backed Loan Facility, Federal Home Loan Bank, etc. and with the return of the yield curve and credit spreads there are some very attractive carry trades out there. Has the market really changed or is the window for all these new firms a short-term opportunity? People are still looking at carry trades so that hasn't. It would appear that we are not going back to the highly leveraged model any time soon, so that's really changed. The market is always changing and adapting, but the opportunity to start new firms will not be as good as it is right now because some of the traditional barriers I mentioned before will come back. Wide spreads will eventually decrease and firms will need higher volume to cover fixed expenses and such.
So, not every start-up is going to survive? Some of these firms will have trouble surviving in the future if they don't have a robust business plan and a real understanding of the markets. If their plan is to simply have a handful of people cross bonds, they may not be able to survive in the future when spreads drop and they don't have ways of increasing volume or other lines of income. These firms will find that they suddenly can't cover their expenses and will either have to merge to get economies of scale or wither away. The most likely firms to be the next big names are already anticipating these changes and have impressive plans for the future.