27 April 2015

Financial Times: Stagnation, fines and regulation leave European banks struggling

Over the past week, the trend has seemed to accelerate. Consider the latest quarterly results from Credit Suisse, a strategic plan from Deutsche Bank and HSBC’s threats to relocate its headquarters from London to Hong Kong amid growing unease about fiscal and political uncertainties. They are hardly an advertisement for the future of European banking.

In investment banking, the basis for the global strategies of most international banks, the first three months of 2015 was the best quarter for years. Wall Street’s finest hailed levels of profitability not seen since the financial crisis. European banks have been buoyed along too. But there is a wide gap. Goldman Sachs made a 15 per cent return on equity. Credit Suisse and Deutsche, the only big European banks to report so far, made 10 per cent and 3 per cent.

In the underwriting and advisory wing of investment banking, the Europeans are lagging, too. European banks have had their worst showing for a decade in M&A and equities, according to league table data from Thomson Reuters. There were only two Europeans (Barclays, ranked four, and CS, 10) among the top 10 deal advisers so far this year. A decade ago, UBS and Deutsche were in there, too. In equities, Barclays has tumbled down the rankings, leaving only three banks (Credit Suisse, UBS and Deutsche) in the top 10.

In trading, most of the big European players have a strong fixed-income bias and are the most exposed to the impact of steadily toughening regulatory capital requirements. That risks spilling over into the one main bright spot for Europe’s banks — debt capital markets issuance, where Barclays and Deutsche and to a lesser extent HSBC, Credit Suisse and BNP Paribas are giving the US banks a run for their money.

The status of Europe’s investment banks will only get worse. Credit Suisse, which has already shrunk some parts of its investment banking unit, will see further capital directed away from the business and towards wealth management, once new chief executive Tidjane Thiam is in place.

Deutsche is the last red-blooded investment bank left in Europe. Its new strategy involves cutting €200bn of assets from its investment banking division. But put that in context. Net, the cuts will still only reduce the investment bank’s balance sheet to €1.3tn, the same as early this year.

The trouble is that, like Credit Suisse, Deutsche is stretched to the limit on capital. It is now aiming for a leverage ratio of equity to assets of 5 per cent (up from 3.4 per cent now). Deutsche’s shift away from retail banking (through the sale of Postbank) and redoubled commitment to investment banking is unusual in a regulatory environment that punishes many core investment banking activities.

If the bank is lucky — the European economy turns up, regulators back off and the punishment of past misdemeanours abates — it could be a winner among European peers. But even then, it is hard to see even Deutsche keeping pace with a Goldman or a JPMorgan. If Deutsche is unlucky — the regulatory pressure continues, the European economy stagnates and costs prove stubborn — it is stuck. Like Credit Suisse, its name binds it to its domestic economy and all the attendant regulatory pressure. And unlike some European rivals, it has few other strings to its bow.

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