Financials Credit Analyst

Hank Calenti, CFA

CreditContinuum

Credit

Given its low capital buffer and plans to lower it further, along with high market risk tolerance and leverage finance exposure, <a href="https://www.smartkarma.com/entities/credit-suisse-group-ag" target="_blank" data-smartkarma-citation="entities:22253:1" rel="noopener">Credit Suisse's (CSGN VX)</a> Additional Tier 1 (AT1) trades too tight relative to <a href="https://www.smartkarma.com/entities/ubs-group-ag" target="_blank" data-smartkarma-citation="entities:22590:1" rel="noopener">UBS (UBSG VX)</a> and most other large banks globally. We see better value elsewhere at this point in the credit cycle.Many analysts compare CS and UBS and conclude that they are largely the same, with UBS having deleveraged its investment banking franchise years earlier. We disagree. While both may suffer outflows in assets under management during a prolonged equity market correction, UBS has a far less market-sensitive franchise during intermittent bouts of volatility, as was clearly shown over the past year. In addition to having a higher trading risk tolerance profile, CS appears to have a higher sensitivity to non-investment grade leverage finance and oil &amp; gas exposures.  These are more sensitive to the business cycle. As of now, with global growth set to accelerate post-vaccination, this is a benefit. However, this is also already priced into CS’ securities.  In fact, the longer-dated AT1 bonds are priced to perfection, in our view.In addition, CS has a substantially lower Common Equity Tier 1 (CET1) buffer than UBS and many other European banks.  Furthermore, as CS targets an even lower capital ratio, this buffer is at risk of falling further over the near term. While lofty aspirations to operate at a higher leverage level may be aimed at equity holders, we think it best to take management’s word at face value. Lower capital ratios are not AT1 capital supportive. Unless the firm simultaneously de-risks, sensitivity to non-IG leverage finance and non-IG oil &amp; gas exposures may increase.Furthermore, while we were impressed by Mr. Hoarta-Osório’s leadership at <a href="https://www.smartkarma.com/entities/lloyds-banking-group-plc" target="_blank" data-smartkarma-citation="entities:21009:1" rel="noopener">Lloyds Bank (LLOY LN)</a> in the UK, despite several blemishes, we are surprised that the ex-CEO of a UK-centric mortgage bank would be chosen as Chairman of the Board at a global investment bank with wealth management growth aspirations in Asia. We are not convinced this is the best choice and we question if the execution risk from an eventual strategy pivot will be credit positive.We explore these themes and provide an overview of CS’s Q4 results within. We conclude that, taken together amongst its longer-dated peer-issued AT1 notes, we find better value in <a href="https://www.smartkarma.com/entities/societe-generale-sa" target="_blank" data-smartkarma-citation="entities:21478:1" rel="noopener">Société Générale's (GLE FP)</a> 2030 first call AT1 than in the recently issued Credit Suisse security. (Please see: <a href="https://www.smartkarma.com/insights/societe-generale-s-at1-better-fundamental-and-relative-value-than-bnp" target="_blank" data-smartkarma-citation="insights:48177" rel="noopener">Société Générale’s AT1: Better Fundamental and Relative Value than BNP</a> for more details on SocGen). We also see greater spread pick-up in Credit Suisse’s 2025 first call AT1 note than further out the curve.

Given its low capital buffer and plans to lower it further, along with high market risk tolerance and leverage finance exposure, Credit Suisse's (CSGN VX) Additional Tier 1 (AT1) trades too tight relative to UBS (UBSG VX) and most other large banks globally. We see better value elsewhere at this point in the credit cycle.Many analysts compare CS and UBS and conclude that they are largely the same, with UBS having deleveraged its investment banking franchise years earlier. We disagree. While both may suffer outflows in assets under management during a prolonged equity market correction, UBS has a far less market-sensitive franchise during intermittent bouts of volatility, as was clearly shown over the past year. In addition to having a higher trading risk tolerance profile, CS appears to have a higher sensitivity to non-investment grade leverage finance and oil &amp; gas exposures.  These are more sensitive to the business cycle. As of now, with global growth set to accelerate post-vaccination, this is a benefit. However, this is also already priced into CS’ securities.  In fact, the longer-dated AT1 bonds are priced to perfection, in our view.In addition, CS has a substantially lower Common Equity Tier 1 (CET1) buffer than UBS and many other European banks.  Furthermore, as CS targets an even lower capital ratio, this buffer is at risk of falling further over the near term. While lofty aspirations to operate at a higher leverage level may be aimed at equity holders, we think it best to take management’s word at face value. Lower capital ratios are not AT1 capital supportive. Unless the firm simultaneously de-risks, sensitivity to non-IG leverage finance and non-IG oil &amp; gas exposures may increase.Furthermore, while we were impressed by Mr. Hoarta-Osório’s leadership at Lloyds Bank (LLOY LN) in the UK, despite several blemishes, we are surprised that the ex-CEO of a UK-centric mortgage bank would be chosen as Chairman of the Board at a global investment bank with wealth management growth aspirations in Asia. We are not convinced this is the best choice and we question if the execution risk from an eventual strategy pivot will be credit positive.We explore these themes and provide an overview of CS’s Q4 results within. We conclude that, taken together amongst its longer-dated peer-issued AT1 notes, we find better value in Société Générale's (GLE FP) 2030 first call AT1 than in the recently issued Credit Suisse security. (Please see: Société Générale’s AT1: Better Fundamental and Relative Value than BNP for more details on SocGen). We also see greater spread pick-up in Credit Suisse’s 2025 first call AT1 note than further out the curve.

Credit Suisse – Perfection Priced into Long-Dated AT1

Silver Point

Thomas J. Monaco

Silver Point is a boutique research firm that focuses on the broader financial services sector, with a particular focus on troubled institutions globally. 

Asia Ex Japan

Equity Bottom-Up

*Gross Operating Revenues Do NOT Cover Recurring Costs At HSBCNA: HSBC Holdings plc’s (HSBC) [5.HK/HSBA.LN] US subsidiary, HSBC North America (US only) [HSBCNA], reported yet another troubling set of results for 4Q20, losing USD 152.6 mn – down USD 312.6 mn (195.4%) on a linked quarter basis. Excluding non-recurring items, core operating income declined USD 313.6 mn (230.1%) for a loss of USD 177.3 mn over the same period. As it stands again, HSBCNA’s operating costs exceed recurring revenues; *HSBCNA Is Evolving Into An Indian State Bank: Given the credit weakness, we find that NPL/TL and problem assets/TL ratios significantly worsened 92 bp and 160 bp linked quarter, respectively, to 2.82% and 5.01%. By our calculation, we note that net new problem loan growth is a scary USD 867.9 mn  - for an annualized rate of growth of 155.4% - in line with the Indian state banks. By our calculation, HSBCNA’s reserves are light by USD 3.8 bn or 17.6% of HSBCNA’s stated equity. We would have compared the reserve shortfall to PBT, but HSBCNA simply loses money on an operating basis; and*HSBCNA Should Be Dumped At Any Price: HSBCNA is a chronic mess, and there is absolutely no need for HSBC to maintain a full commercial/retail banking presence in the US. It cannot earn a positive return under its current structure; credit is again about to fall off a cliff; does not earning; NIMs are among the lowest in the USA; and capital is shortly about to fall below regulatory guidance. Further, the bad acquisitions and regulatory headaches should spur management to cut and run in the US. We look forward to Group results on February 23rd, and the clarity we will receive on its hot mess in the US.

*Gross Operating Revenues Do NOT Cover Recurring Costs At HSBCNA: HSBC Holdings plc’s (HSBC) [5.HK/HSBA.LN] US subsidiary, HSBC North America (US only) [HSBCNA], reported yet another troubling set of results for 4Q20, losing USD 152.6 mn – down USD 312.6 mn (195.4%) on a linked quarter basis. Excluding non-recurring items, core operating income declined USD 313.6 mn (230.1%) for a loss of USD 177.3 mn over the same period. As it stands again, HSBCNA’s operating costs exceed recurring revenues; *HSBCNA Is Evolving Into An Indian State Bank: Given the credit weakness, we find that NPL/TL and problem assets/TL ratios significantly worsened 92 bp and 160 bp linked quarter, respectively, to 2.82% and 5.01%. By our calculation, we note that net new problem loan growth is a scary USD 867.9 mn  - for an annualized rate of growth of 155.4% - in line with the Indian state banks. By our calculation, HSBCNA’s reserves are light by USD 3.8 bn or 17.6% of HSBCNA’s stated equity. We would have compared the reserve shortfall to PBT, but HSBCNA simply loses money on an operating basis; and*HSBCNA Should Be Dumped At Any Price: HSBCNA is a chronic mess, and there is absolutely no need for HSBC to maintain a full commercial/retail banking presence in the US. It cannot earn a positive return under its current structure; credit is again about to fall off a cliff; does not earning; NIMs are among the lowest in the USA; and capital is shortly about to fall below regulatory guidance. Further, the bad acquisitions and regulatory headaches should spur management to cut and run in the US. We look forward to Group results on February 23rd, and the clarity we will receive on its hot mess in the US.     

HSBC Holdings Plc –American Result Intimates Group Miss

*Always The Magician: Founded in 2010, Metro Bank plc (MTRO.LN) [Metro] was the first de novo high street bank in the United Kingdom in over 150 years. After a period of rapid growth, Metro ran into some difficulties. Over the years, we have learned never to count out Founder Vernon Hill (former Chair and Founder of former Commerce Bancorp in New Jersey) who always walks between the raindrops. Metro has moved forward with the sale of its mortgage portfolio to Natwest Group plc on December 18, 2020; and *Large Capital Gain: The sold Metro portfolio should provide the company with and GBP 83mm gain on sale – representing 42% of market-cap. The sale of 20% of Metro’s loan portfolio also removes Metro’s need to issue expensive MREL debt versus its prior debt guidance issuance of between GBP 200-300 mn.

 *Always The Magician: Founded in 2010, Metro Bank plc (MTRO.LN) [Metro] was the first de novo high street bank in the United Kingdom in over 150 years. After a period of rapid growth, Metro ran into some difficulties. Over the years, we have learned never to count out Founder Vernon Hill (former Chair and Founder of former Commerce Bancorp in New Jersey) who always walks between the raindrops. Metro has moved forward with the sale of its mortgage portfolio to Natwest Group plc on December 18, 2020; and *Large Capital Gain: The sold Metro portfolio should provide the company with and GBP 83mm gain on sale – representing 42% of market-cap. The sale of 20% of Metro’s loan portfolio also removes Metro’s need to issue expensive MREL debt versus its prior debt guidance issuance of between GBP 200-300 mn. 

*PRA Changes Its Tune On Dividends: The United Kingdom’s (UK) Prudential Regulatory Authority (PRA) recommended last week that the that UK banks can resume paying dividends subject to FY 2020 results. Linking dividends to the recent success of profitability mirrors Federal Reserve Board policy for the large US banks; and *HSBC Should Stand Pat On The Dividend: While its true that HSBC North America (HSBCNA) doesn’t contribute to the bottom-line, it has weighed down Group results through 3Q20 with losses of USD 963 mn. This thing simply needs to go. With this kind of uncertainty along with risks in France and Asia – again exacerbated by COVID-19 – HSBC Holdings Plc (HSBA/LN/5.HK) should be conserving capital especially if the weak HSBCNA is considered a takeunder candidate.

*PRA Changes Its Tune On Dividends: The United Kingdom’s (UK) Prudential Regulatory Authority (PRA) recommended last week that the that UK banks can resume paying dividends subject to FY 2020 results. Linking dividends to the recent success of profitability mirrors Federal Reserve Board policy for the large US banks; and *HSBC Should Stand Pat On The Dividend: While its true that HSBC North America (HSBCNA) doesn’t contribute to the bottom-line, it has weighed down Group results through 3Q20 with losses of USD 963 mn. This thing simply needs to go. With this kind of uncertainty along with risks in France and Asia – again exacerbated by COVID-19 – HSBC Holdings Plc (HSBA/LN/5.HK) should be conserving capital especially if the weak HSBCNA is considered a takeunder candidate.

HSBC Holdings Plc – PRA Says Yes, But Management Should Say No

Research and consultancy, Tabbush Report

Daniel Tabbush

Research and consultancy

Tabbush Report

We provide research and consultancy on Asian banks. Our focus is on what we call “Asian bank research, without the noise.” We are interested in the most critical swing-factors for banks, the NPL and credit cycle, and where we believe there is a gap between perception and reality. We often focus on the less studied components of bank financial statements.  Our research is highly thematic, sometimes examining unlisted banks and companies as a window on mainstream banks. 

Being independent allows us to look at smaller banks, often overlooked by others. Analysis of BIS bank guidelines in the context of Asia, is also a focal point, while we also analyze global banks operating in the region. We use what we believe is the most comprehensive, reliable financials database, SNL Financial. S&P Capital IQ augments our database, with corporate data and CEIC, with economics. 

Asian bank research, without the noise.

Thematic (Sector/Industry)

The next step for banks is to purge costs. As banks brace for more defaults, less loan demand,  higher credit costs, we must expect a wholesale effort on cutting costs. Many banks held off on their cost cutting plans early in the year to ease financial stress for staff and their dependents. It is doubtful that this lasts, especially with more countries reinstating insane policies of locking down citizens as an attempt to stop C19 deaths. The one controllable for banks is operating costs. However, this raises an additional question of ‘free banking’ as put forward by SmartKarma some weeks ago. Perhaps this is when more banks begin charging for basic banking services, alongside cost cutting.

The next step for banks is to purge costs. As banks brace for more defaults, less loan demand,  higher credit costs, we must expect a wholesale effort on cutting costs. Many banks held off on their cost cutting plans early in the year to ease financial stress for staff and their dependents. It is doubtful that this lasts, especially with more countries reinstating insane policies of locking down citizens as an attempt to stop C19 deaths. The one controllable for banks is operating costs. However, this raises an additional question of ‘free banking’ as put forward by SmartKarma some weeks ago. Perhaps this is when more banks begin charging for basic banking services, alongside cost cutting.

United Kingdom

Lloyds Banking Group plc, through subsidiaries and associated companies, offers a range of banking and financial services. The Company provides retail banking, mortgages, pensions, asset management, insurance services, corporate banking, and treasury services.

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Lloyds Banking (LLOY LN)

Credit Suisse – Perfection Priced into Long-Dated AT1

Many analysts compare CS and UBS and conclude that they are largely the same. We disagree. Given its low capital buffer, higher leverage finance...

Hank Calenti, CFA

HSBC Holdings Plc –American Result Intimates Group Miss

HSBC HOLDINGS PLC: HSBCNA reported troubling results in 4Q20 - declining 195% linked quarter, as operating costs exceed recurring revenues. This...

Thomas J. Monaco

Metro Bank Plc – Emrys

METRO BANK PLC: Metro was the first de novo high street bank in the United Kingdom in over 150 years. Metro ran into some difficulties, and moved...

Thomas J. Monaco

HSBC Holdings Plc – PRA Says Yes, But Management Should Say No

HSBC HOLDINGS: PRA Allowing UK Banks To Dividend But Is Restrictive. HSBC Should Stay Away From Cash Dividends Given The High Degree Of Balance...

Thomas J. Monaco

Global Banks – Cost Purge

We must expect the previously good delta in credit costs to wane or to reverse altogether alongside renewed lockdowns. To preserve profit, banks...

Daniel Tabbush

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