Punch-drunk Credit Suisse was fated to fall

You can’t regulate for the evaporation of trust

An extraordinary weekend in Switzerland culminated in the collapse of Credit Suisse into the wary embrace of its great rival, UBS. The latter did not want to have to buy the former. For all the Swiss authorities’ insistence that this was a takeover – a ‘commercial solution’ according to the finance minister – UBS had no choice but to make a deal work. US Federal Reserve Chair Jerome Powell and Treasury Secretary Janet Yellen gave the game away, welcoming the move by ‘Swiss authorities to support financial stability’.

For all the frantic efforts of the past few days, UBS’s leadership knew they might have to step in to shore up Swiss Finance Inc. Six months ago, a top UBS executive told OMFIF that he put the chance of a forced takeover of Credit Suisse at around 30%. At the time, Credit Suisse’s market capitalisation was around $20bn. Last night, UBS picked up a bank with assets of close to $600bn for just $3.5bn.

What lessons can be learned from this crisis? First, it’s a huge embarrassment for the Swiss authorities. Since the 2008 financial crisis, they had made the country’s two big banks carry substantially higher core capital than their global competitors in other jurisdictions, much to the chagrin of their respective leaderships. The so-called ‘Swiss finish’ could not prevent the huge withdrawal of deposits – as much as CHF10bn a day – finishing off Credit Suisse.

It also points to the dangers of a very consolidated banking system. Last week, in the highly diversified US market, where no single bank can have a market share of more than 10%, a group of the biggest and strongest US banks provided $30bn of liquidity to First Republic Bank. In Switzerland, the market solution depended on a coalition of one. The irony is that Switzerland’s banking system is even more consolidated today.

The Swiss National Bank and the Swiss Financial Market Supervisory Authority have potentially lit a fire underneath a core pillar of the post-2008 financial crisis banking capital structure. Holders of $17bn of AT1 bonds – designed for buyers to have their holdings converted into equity if a bank ran into trouble, in essence a ‘bail-in’ mechanism – will be wiped out. AT1 owners are meant to sit higher in the capital structure than shareholders, but the latter will receive that $3.5bn from UBS. Swiss authorities have prioritised giving something – albeit not very much – to the many retail shareholders and pension funds that own Credit Suisse stock. Hedge funds and other professional investors are easier to rile.

There is a precedent for AT1 bonds not being bailed in. The European Central Bank’s Single Resolution Board took the approach when it deemed Spain’s Banco Popular ‘likely to fail’ and it was consolidated into Santander. If the takeover of Credit Suisse by UBS really is a commercial decision, and given the support of the Swiss approach has been welcomed by other leading regulators, AT1s look worthless. Estimates suggest outstanding AT1s total $275bn, and their value was dropping fast on the day the Credit Suisse deal was announced.

Credit Suisse’s collapse is definitively not indicative of a global problem for the banking system. It is a unique story. Right up until its forced sale, the bank had ample capital. Until the past few days, it also had ample liquidity. Its liquidity crunch was caused by the evaporation of trust from the market. In the case of Silicon Valley Bank, for example, it was the withdrawal of liquidity that led to a collapse in confidence.

Credit Suisse’s decline was like a former champion boxer that has simply taken too much punishment. The Mozambique fines, the Archegos collapse, the Greensill scandal, multiple leaders leaving suddenly and under a cloud, financial reporting errors, misleading briefings to shareholders, strategies that didn’t pass scrutiny and perhaps the final blow landed by its own largest shareholder, the Saudi National Bank. Blow after blow. Punch-drunk. The end was inevitable.

What does this mean for UBS? It has picked up a highly profitable Swiss domestic bank which, when it was slated for listing five years ago, was valued north of $15bn. It remains a valuable asset. It gives UBS, already the world’s biggest wealth manager, an even more powerful position in a lucrative and growing business line. However, there is huge overlap between Credit Suisse and UBS’s client bases – from retail, to wealth, to Swiss multinationals – and other banks are likely to benefit from in-flows as these clients look to maintain a level of diversification.

It leaves a huge question mark about how UBS will resolve issues in Credit Suisse’s investment bank – ‘where the poison lies’, as one former executive told OMFIF over the weekend. But UBS has negotiated a loss guarantee of CHF9bn from the SNB on some of these problem assets.

Of concern to UBS’s leadership is the effect that the Credit Suisse takeover will have on its overall strategy. Its chairman, Colm Kelleher, has been on a charm offensive to persuade leading fund managers that UBS is a global, rather than Swiss, business. He had been quite successful, edging UBS’s price-to-book valuation closer to the likes of market leaders JPMorgan and Morgan Stanley. For the time being, UBS is very much a Swiss bank again.

Clive Horwood is Managing Editor and Deputy Chief Executive Officer of OMFIF.

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