Vast changes in the capital markets industry are set to send capital commitment and risk assumption on a downward slide, according to new research out today from TowerGroup.

The report, entitled “Realigning an Industry,” assesses the implications of the bankruptcy filing of Lehman Brothers and the acquisition of Merrill Lynch by Bank of America on the future of the capital markets industry.

It holds that the very model under which Wall Street has operated for centuries has changed, and the era of independence for sell-side firms is waning.

The resulting decrease in capital commitment and risk assumption will translate into far fewer deals being made going forward than over the past several decades. It will also lead to a decline in technology spending across the securities industry, according to the research.

With sell-side firms continuing to decline in market capitalization, TowerGroup believes that they are prime targets for acquisition as they become more affordable, or — if left to market forces — candidates for bankruptcy.

And such a trend is not limited to the United States. The report notes that international capital markets firms including Credit Suisse and Deutsche Bank have experienced declining market capitalization in recent months alongside several U.S. firms.

“The past six months have shown that the tipping point has passed and the stand-alone, ‘bulge-bracket’ brokerage firm is a thing of the past,” said Rob Hegarty, managing director of TowerGroup’s securities & investments practice, and author of the report.

“TowerGroup believes that the large, universal banks acquiring these businesses are positioning themselves to become the wealth management firms of choice. As subsidiaries, these brokerage businesses may ultimately flourish. But it will be under the watchful eye of a more conservative and more risk-averse overseer.”

The demise of the stand-alone investment bank will likely lead to a sharp, long-term decline in the creation and use of structured products, leaving few firms with the size and risk appetite to take on such an industry, the report notes.

Questioning whether “financial supermarkets” are the wave of the future, TowerGroup points to the large number of failed attempts at building such institutions, compared with few successes. Executing the supermarket strategy is difficult at best and irresponsible at worst, TowerGroup states.

The group also expects IT spending in the securities and investments sector to decline sharply from 2008 to 2009, led by a 14% to 16% decline in sell-side IT spending. The combined IT budgets for Lehman Brothers and Bear Stearns totaled nearly US$2 billion annually, most of which is virtually disappearing overnight.