The author is Managing Partner and Head of Research at Axiom Alternative Investments
Bank investors are well aware of the risks; They know that banking depends on trust and that sentiment can change quickly. However, the crisis now faced by Credit Suisse is a previously unseen phenomenon.
I remember that every bank failure was due to hidden losses, whether it was in the loan book, the derivatives book or the bond book. Although this latest episode of market panic stemmed from bond losses at mid-sized American banks, there is no suggestion that the current Credit Suisse crisis stemmed from this problem. So how did this happen and what lessons can we draw from the crisis and the intervention of the Swiss authorities?
In volatile markets following the collapse of Silicon Valley Bank and Signature Bank, an awkward statement from Credit Suisse’s largest shareholder, which said it would provide no further assistance, was enough to send the bank’s share price into a tailspin. Financial aid is the gun of Chekhov’s banking: mention it and it is very likely that it will be used before the end of the play.
It is no coincidence that Credit Suisse has become a major target of the markets. For years now, it has been embroiled in a series of scandals and management controversies. Sometimes it seems that its annual report is nothing more than a long list of lawsuits, both old and new, with acknowledgment of poor risk controls.
As a result, CS has established itself as the weakest link of European global systemic banks. It’s a bit of a weird weak link, because it had a lot of capital and a lot of liquidity. It is not the only bank with low profitability and not the only bank with deposit outflows in the fourth quarter. And it’s certainly not the only bank to have faced scandals over the years. However, he is the one who had all these weaknesses at the worst possible moment.
What were the options to stop the bleeding? The Swiss authorities really had no choice. Ultimately, Credit Suisse’s own customers decided its fate, not investors. They had made up their minds and withdrawn the funds. Merging with UBS is an obvious solution that was on everyone’s mind. Perhaps the Swiss authorities will be criticized for not doing more to open up the bidding war to non-Swiss players, but can we really blame them? Does anyone remember the bank failure solved over the weekend with a foreign white knight?
This is why UBS is in a very strong negotiating position. People will argue about the potential cost of litigation losses, worse loans, or liquidating Credit Suisse’s investment bank. But UBS pays a fraction of the bank’s shareholder equity, estimated at SFr45bn ($49bn) at the end of last year. Even after accounting for the potential sale of some assets in the Swiss retail bank to manage competition issues, the deal is likely to be highly value-adding for UBS shareholders. Restoring client confidence and lower funding costs can also be a game-changer for profitability.
It seems that the bondholders will be forced to bear the loss. In the long term, this could raise financial stability issues, as the case was fueled by market panic over a highly capitalized and illiquid bank that was supported by its supervisors.
There are many lessons to be learned from this crisis, but my hope is that what will ultimately prevail is this: It is very important that a bank’s culture treats it lightly. Internal failures can then lead to market volatility or even banker-turned-crooks jeopardizing the jobs of thousands of hard-working people who will feel betrayed and corrupted by working for the wrong company. Regulators and investors have done a lot of work on this, but obviously there is more to do.
Axiom trades in bonds from Credit Suisse and other banks