Rumors are circulating: he could leave the United States altogether (this one at least was quickly denied); it will split into two or even three pieces; outside investors will finance part of its investment bank; or maybe he’ll run this business to fend for himself. All of this is troubling for the bank’s most valuable customers and most successful remaining bankers. Investors, lenders, staff and clients need to see a detailed and plausible roadmap quickly, or Credit Suisse’s fate will be years of struggling to cut costs as quickly as it loses revenue.
To quell the chatter, the bank released a statement on Monday saying its full review was on track, including potential sales of assets or entire businesses. The bank needs seed funding to restructure quickly: a long-term option could be to seek out a white knight, like Warren Buffett, who invested in some institutions during the 2008 financial crisis.
To recap briefly: Credit Suisse hasn’t earned its cost of capital in over a decade, with the investment bank largely to blame. Its average annual return on equity from 2011 to last year was just 1.5%. An expected loss this year of nearly $2 billion will bring its cumulative result for the past eight years to a net loss of nearly $500 million. Without insisting, Credit Suisse shares have long been a bad investment.
Parts of investment banking are still profitable, but unexpected losses, restructurings, fines and other issues have steadily undermined the elements that have worked. The answer is to scale it back significantly, focus on activities most relevant to its private banking and wealth management businesses, and ensure it pays for itself by earning its own cost of capital. That’s the view Lehmann laid out during the bank’s July results.
Credit Suisse’s investment bank is expected to end up with teams of bankers advising entrepreneurs and some companies on debt and stock market trading and fundraising. He will also need traders focused on equities and currencies, which are the preferred areas of investment and speculation for wealthy clients. But these operations will have to be lightened and made much more efficient than today.
What it won’t need are ranks of bond and interest rate traders, a big business focused on funding private equity buyouts with leveraged loans, and (even less) its securitized products division, which buys things like mortgages and leveraged loans and wraps them in bonds.
How to get rid of this second set of activities is the difficult question, and time is running out. The crash in its share price and rising yields on its own debt make the bank more expensive to fund and less attractive as a trading counterparty, which could lead to a loss of business as it did for Deutsche Bank. AG.
The quick fix is to ask shareholders to prepay the restructuring. Deutsche Bank analysts think about $4 billion would cover it; RBC Capital Markets analysts say up to $6 billion would be needed. With the stock hitting a record high last week and trading at a valuation less than a quarter of its expected book value, Credit Suisse’s board won’t want to go.
That would be hugely expensive: $4 billion is more than a third of the bank’s market value today, up from less than a sixth a year ago and a ninth before Credit Suisse lost more than 5 billions of dollars when Archegos Capital Management collapsed.
The slowest way would be to split the part of the investment bank it doesn’t want into a non-essential division. It’s a familiar playbook in Europe designed to get investors to focus on the best companies that will be retained and ignore those that will eventually die. The hope is that investors are pricing the bank’s stock on the former and not too worried about how long it will take to get rid of the latter. This tends not to work very well because non-essential businesses quickly lose revenue, but their costs and assets take longer than expected to shift.
A cleaner, faster break will always be better. Investors are more likely to increase the value of core Credit Suisse if its promised returns are much closer to the returns they actually receive. There are other ways Credit Suisse could find funds to get out of trouble.
First, his own suggestion is to get an outside investor to put capital into his securitized products division and maybe eventually buy it outright. However, potential partners like France’s BNP Paribas SA or US private equity firm Apollo Global Management are more likely to bid for specific assets than close a deal, according to analysts at Citigroup Inc.
Credit Suisse could pursue an earlier idea of listing a minority stake in its Swiss national bank, which would likely be more valuable than the rest of the group and easily raise $4 billion. But that would remove much of Credit Suisse’s most reliable earnings and leave investors even less interested in the rest.
A third way that would still be costly, but potentially less damaging to shareholders, would be to seek out the type of investment that Buffett made in Goldman Sachs Group Inc. and Swiss Re AG during the 2008 financial crisis. Credit Suisse could seek a patient, deep-pocketed investor and sell them instruments with fixed yields more similar to debt and perhaps an option to convert to equity at a price that would represent a strong recovery for the bank.
That would be expensive funding – perhaps more than the roughly 10% return paid by Goldman and Swiss Re – and the bank would likely have to negotiate with regulators exactly where it fits into its regulated capital base. But Credit Suisse has already been a pioneer in paying bankers in hybrid forms of capital. And this option could be much cheaper than a direct stock sale. It would also allow everyone to see a light at the end of the tunnel much sooner.
More from Bloomberg Opinion:
• Credit Suisse and the Hotel California effect: Marc Rubinstein
• Change at Credit Suisse? Don’t Hold Your Breath: Paul J. Davies
• The ghost of Greensill will haunt the world of finance: Lionel Laurent
This column does not necessarily reflect the opinion of the Editorial Board or of Bloomberg LP and its owners.
Paul J. Davies is a Bloomberg Opinion columnist covering banking and finance. Previously, he was a reporter for the Wall Street Journal and the Financial Times.
More stories like this are available at bloomberg.com/opinion