Following a string of scandals, bad investments and woeful risk management, Switzerland’s second largest bank, Credit Suisse, is close to the edge.
Yesterday’s much-awaited publication of Credit Suisse’s financial results for the third quarter as well as its latest strategic review gave a somewhat clearer idea of just how bad things really are under the bonnet. And it turns out they are pretty bad — so bad, in fact, that Credit Suisse’s shares yesterday (October 27) suffered their biggest daily rout ever. Today, those shares have so far barely managed to muster a rebound, even of the “dead cat” (apologies to all feline lovers) variety.
A Four Billion Dollar Loss
Credit Suisse is one of 13 European lenders on the Financial Stability Board’s list of Global Systemically Important Banks (G-SIBs). In other words, it is officially too big to fail, but it is nonetheless precariously close to failing. Yesterday it disclosed a whopping third-quarter loss of $4 billion — more than eight times average estimates of just under $500 million. The loss was largely the result of a reassessment of so-called deferred tax assets (DTA).*
This is Credit Suisse’s fourth quarterly net loss in a row. So far this year, it has posted $5.94 billion of losses. Net revenue, at $3.8 billion, was up marginally on the previous quarter but down 30% from Q3-2021. The value of its asset base has shrunk drastically, from $937 billion in December 2020 to $707 billion today. The group’s common equity Tier 1 ratio has also fallen to 12.6%, well below its target of at least 13.5%.
To right the ship, CS has presented a new strategic overhaul — its third in recent years. At the core of the overhaul is a plan to raise $4 billion of fresh capital. The good news for Credit Suisse is that it has already found a major backer — Saudi Arabia’s largest commercial bank, Saudi National Bank (SNB), which has pledged up to $1.52 billion of capital. That will give the SNB 9.9% of outstanding CS shares.
Majority controlled by the House of Saud, the SNB (not to be confused with the Swiss National Bank) has also expressed an interest in participating in future capital measures of Credit Suisse to support the establishment of an independent investment bank in Saudi Arabia. If nothing else, SNB’s participation will make for interesting boardroom drama given the sovereign wealth fund of Qatar, a country that is locked in a diplomatic conflict with Saudi Arabia, has a 5% stake in the Swiss lender.
The question now is whether or now CS will be able to secure the remaining $2.5 billion. The capital raise is already going to dilute existing CS shareholders, many of whom are miffed at having already poured $12.2 billion of additional capital into the lender — more than its current market value — since 2015. That was one reason why CS’s shares plunged a whopping 18.6% yesterday — their biggest daily fall ever. Those shares are now down an eye-watering 57% so far this year and over 95% since 2008.
To staunch the bleeding, the bank plans to slice its investment bank into multiple parts, exit certain businesses and sell off the rump of its securitized products group, most likely to Apollo Global Management Inc. and PIMCO. It also hopes to bring back the First Boston brand name for its US investment banking business, which Credit Suisse acquired in 1990, only to spin most of it off. According to sources cited by Reuters, CS will still maintain a large stake in CS First Boston but, over time, will wind down its position.
Credit Suisse also plans to slash 15% of its expenses between now and 2025. As part of this “radical” cost-saving plan, it will lay off 9,000 of its 52,000 employees. If all goes to plan, the bank will be back to making profits some time in 2024. But even if that happens, CS aims to achieve a return on tangible equity – a key measure of profitability – of just 6% by 2025, which means it will continue to lags its peers.
“The new Credit Suisse will definitely be profitable from 2024 onwards,” CEO Ulrich Koerner said in an interview with Bloomberg Television. “We do not want to over promise and under deliver, we want to do it the other way around.”
As I noted a month ago, in Fast-Shrinking TBTF Giant Credit Suisse Is Living Dangerously, CS has chosen the worst possible moment to go cap in hand to investors, with financial conditions deteriorating rapidly worldwide, the global bear market deepening and its own market cap now valued at just $10.15 billion, less than half its value ten months ago. That makes it much harder to raise equity at a reasonable price to bolster its capital position.
“Executing this is highly dependent on economic forces beyond their control,” Chris Marinac, director of research at investment firm Janney Montgomery Scott, told Reuters. “If we were in a big market, you could probably give the company the benefit of the doubt. But because it’s fall 2022 and there’s all this uncertainty…it’s really difficult. This is the pond in which Credit Suisse swims.”
What is perhaps most striking is how quickly CS’s financial health has deteriorated. Like most European banks, Credit Suisse’s problems date back to the massive build up of private debt during the pre-crisis years and its subsequent implosion during the GFC and European sovereign debt crisis. But in the short space of the last two years it went from being a reasonably savvy wealth manager to prising the mantle of Europe’s most troubled lender from Deutsche bank, mainly due to its over-entanglement with the Archegos “family office” meltdown and the Greensill “supply chain finance” scam.
And the scandals keep coming thick and fast. In the past two years alone it has been fined for arranging a fraudulent loan to Mozambique, for laundering money for a Bulgarian cocaine trafficker and for misleading shareholders over its risk exposure to Archegos Capital. Exposure to that risk has cost the bank at least $5.5 billion.
It just paid out $234 million to settle a French tax fraud case. It has also been rebuked by regulators for spying on its executives and has been sullied by its involvement with defunct financier Greensill Capital. The fallout from that scandal has done untold damage to Credit Suisse’s reputation among its most important client segment: ultra high net worth investors.
The recent blowout in the spreads of Credit Suisse’s credit default swaps, to levels not seen since the GFC, suggested the bank was suffering a funding crisis, as Yves pointed out in her recent post, “The Inevitable Financial Crisis“. Yesterday, CS more or less admitted as much, saying that one or more of its units breached liquidity requirements in October as a result of depositors pulling their money. In other words, the bank suffered the beginnings of a bank run.
According to a statement by CS, the withdrawals were sparked by “negative press and social media coverage based on incorrect rumors” (that the bank is in trouble, which it clearly is), and exacerbated by the fact that the bank had curtailed its access to debt markets in the weeks prior to unveiling its restructuring plan. CS stressed that its liquidity and funding ratios at the group level had been upheld at all times.
This may explain why, in October, the Swiss National Bank hit up the Federal Reserve for over $20 billion in dollar swaps. A week ago, 17 Swiss banks were allocated $11.09 billion, the largest amount requested in a single operation since the Global Financial Crisis.
According to Swiss Info, given “there were no stress signs flaring in the Swiss financial system” (apart from, of course, a gathering run on deposits at its second largest bank) the “increased appetite for dollars was probably a money-making play by smaller banks.” If that was true (which it probably isn’t), the idea of Swiss banks loading up on billions of dollars from the Fed just for an arbitrage play, would, in and of itself, be scandalous.
But as the Swiss National Bank is staying shtum on the matter, we have no way of knowing what the money was actually used for. But the mere fact that the SNB has been drawing upon dollar swaps in volumes not seen since the GFC should be serious cause for concern.
In the meantime, cracks continue to appear in CS’s latest strategic plan, reports Reuters today, with analysts and investors expressing a sense of lingering unease. One anonymous shareholder described an “overall grim picture”. According to the Spanish newspaper El Español, if CS fails to raise the requisite amount of capital, the most likely outcome will be a shotgun takeover by UBS, which would be the first ever merger of two European TBTF banks. It would probably require a significant infusion of public funds while creating the mother of all banking monopolies.
* “Deferred tax assets”, or DTAs, are assets of often dubious value. Banks (like other companies) can carry forward losses wracked up over prior years to offset their tax liabilities, if any, in the future. DTAs are the theoretical value of potential future tax savings, should the banks one day have enough taxable profits, and therefore enough tax liabilities, to use them. DTAs drew controversy during the crisis after banks were allowed to cosmetically boost their capital base by converting DTAs, which do not count toward core capital, to deferred tax credits, which do.