(March 20th, 2022)
By (Leonardo Bassino, Equity Analyst)
Edited by (Ascanio Cicogna, Head of Research)
What Happened in the US?
On March 10th of this year the world woke up to the second largest bank collapse in US history. Silicon Valley Bank, 16th largest bank in the United States, specialised in offering services to tech companies and start-ups, a feature that ultimately led to the bank’s deposits not being particularly diversified, with more than 85% of their deposits being uninsured. After a bond sale, that returned a $1.8B loss for the firm, caused a bank run that ended with the bank’s collapse, people have started to worry about banks all around the world not being liquid enough to survive sudden deposit withdrawals. So, how will SVB’s collapse affect the European banking sector? What should European investors expect in the near future?
The general response
Last Friday, the STOXX Europe 600 Banks Index EUR (SX7P) opened red with a 4.6% day-to-day decrease, five days later, the Index had dropped by 12.3%. The Index is composed of 600 European banks, to cite some with the highest weight we find HSBC (UK), BNP Paribas (FR) and Intesa Sanpaolo (IT). The performance of the index is a testament to the negative expectations investors have towards the industry, the main reason behind the SVB collapse were the sharp rate increases pursued by the FED that started in Q1 2022, which deteriorated the bank’s long term bond portfolio value. The ECB strategy has a similar rationale, after increasing its benchmark deposit rate by 0.5 percentage points, its deposit facility rate is currently at 3.00% and its marginal lending facility rate at 3.75%, it is important to highlight that the former had been negative from June 2019 until July 2022. While EU regulators reassured investors that a spill over effect would not be likely, due to good liquidity buffers, they are working to accelerate the process of tightening regulations on the banking sector.
Figure 1: STOXX Europe 600 Banks Index
On March 13th, HSBC announced its acquisition of SVB UK for the symbolic price of £1, the deal excludes assets and liabilities. The UK bank declared the rationale behind the transaction to be more exposure towards the fast-growing tech sector. The British Government closely followed the deal and facilitated its success, as a sign of its support to tech.
What is happening to Credit Suisse?
Credit Suisse’s share price plummeted 30% to an all-time low on March 15th, reflecting investors increasing concerns regarding the bank’s liquidity. Saudi National Bank (TADAWUL: 1180), the bank’s largest shareholder, announced it would stop buying shares, triggering a selloff of securities. Previously, on March 5th, Harris Associate, the former largest CS shareholder, had decided to completely divest from the company due to its poor performance over the last quarters, and further raising doubts on the effectiveness of CS’ restructuring strategy and costly investment-banking spinoff deal. Indeed, the bank’s last positive recorded net income was in Q1 2021.
While SVB’s failure had a limited effect in Europe, the same cannot be said about Credit Suisse. Many other European banks saw their shares plummet on March 15th, UniCredit’s (BIT: UCG) stock, that performed incredibly well over the last few quarters, more than doubling in value from May 2022, decreased by more than 9.0% following the news. Similarly HSBC's (LON: HSBA) share price decreased by more than 5.0%, followed by Société Générale’s (BIT: GLE) 12.0% drop. As many analysts pointed out, while SVB is expected to have a major effect on the US financial sector only, Credit Suisse might lead to a much wider crisis if the situation worsens and regulators fail to mitigate the problem. The Swiss bank’s large portfolio, with assets under management of around $1630.0B, coupled with its deeply interconnected institutions globally, with subsidiaries in many countries as well as in the US, is bound to have a worse impact than SVB on the financial sector.
On March 16th, the Swiss National Bank responded to CS’ struggles with a $54B liquidity boost package, $3.2B will be used to buy back senior debt. Additionally, on March 19th UBS agreed to acquire CS for $3.25bn, paying less than a third of the firm’s market value. The Swiss government is following the deal closely, working to accelerate the process to quickly achieve maximum stability of the country’s banking system. Should the deal close with no major drawbacks, investors will be reassured, and we should expect a positive reaction from the market.
Credit Suisse’s Financial Statements
The firm’s net revenue for the year 2022 was $14.921B, a 34% decrease from 2021’s results. The bank’s trading revenues were negative in 2022 ($487.1M loss), a 119% decrease from 2021. This drastic change in trading revenue shows us how much the bank has suffered from interest rate increases over the year. On the other hand, the Provision for credit losses, which is the amount a bank sets aside in anticipation of loan losses, was only $17.3M. The measure indicates the interest rate increases positively affected the lending operations of the bank. The operating expenses of $19.616B marked a slight decrease from the previous year, however the Net Income Loss for 2022 ($7.890B) was the largest since 2008. Some ratios worth highlighting are the Cost/Income ratio at 121.7 and the Return on Equity at -16.1. Furthermore, Credit Suisse respects all the Basel III requirements. The CET1 ratio and Tier 1 leverage ratio are respectively 14.1% and 7.7%. The former compares the bank’s capital against its risk-weighted assets, while the latter compares Tier 1 capital to total assets.
Figure 2: Credit Suisse financials, 2018-2022
Credit Suisse’s Balance Sheet deteriorated since last year, with Total Assets for the year 2022 being $578.867B, a 30% decrease from 2021. We can see how Cash and Cash Equivalents more than halved over the year, dropping by 58.5% to $74.447B. Let’s remember that in the case of banks, Cash and Cash Equivalents are a source of income, thus they do not present a loss in opportunity cost. Furthermore, we can focus on the share of cash relative to the bank’s total assets and see how it decreased from 22.0% in 2021 to 12.9% in 2022. Receivables shrank to $14.923B year over year, this is a major sign of slowdowns in operations. Total Liabilities for the year 2022 amounted $524.909B, a 31.7% decrease year over year, with the greatest change happening in the Total Deposits account, now at $264.751B, it went through a sharp 40.5% decrease. Deposits are crucial in determining a bank’s lending ability, and with such a deposit deterioration it will be hard for Credit Suisse to maintain the same level of net loans without external aid. Credit Suisse will have to rely more on long-term debt, whose share of total liabilities increased to 32.4% from 23.5%. Long term debt is susceptible to interest rates increases, and this together with the current inability of the firm to raise capital through shareholders’ equity will increase the bank’s financial risk in the medium-long term.
Figure 3: Credit Suisse deposits, cash and net loans
UniCredit
UniCredit is the second largest Italian bank in term of total assets, $909.268B as of 2022. The stock price of the company gained value constantly starting from Andrea Orcel’s appointment as CEO on January 27th, 2021. The ex-UBS Investment Bank president instilled confidence in investors, which resulted in a rise of 88% in UniCredit’s shares over the course of the year, before the collapse of SVB, and 150.0% since Orcel took charge.
Figure 4: UniCredit’s Stock Price (1Y)
UniCredit’s Income Statements were able to exceed expectations for several quarters. The bank achieved record profits in 2022, $6.845B of 2022A Net Income, an extraordinary 327.7% increase. Since the Revenue increase relative to 2021 was of 8.4% only, it was through a good operating expense management that Net Income was able to hit record results. On the Balance Sheet, the Assets of the firm experienced a 15.1% increase in Net Loans, currently at $530.530B, while the liabilities rose 28.9% to $679.884B in deposits, ensuring fundings for its future operations. More deposits also allow for better liquidity management and increased confidence among customers, this will protect the firm in case of future systemic instabilities in the European banking sector.
Excluding the current period, where market-changing events could unfold and drastically influence investors’ expectations, UniCredit’s recent stock-price fall could be a potentially profitable investment. The firm’s strong performance, investors’ confidence, and low P/E ratio will likely price in as the present panic fades away.
Figure 5: UniCredit total revenue and net income
Conclusion
Credit Suisse is frightening investors, with record low profitability and its main shareholders starting to pull back. However, the UBS acquisition deal is good news for the general banking sector. As of now, the main European banks are holding strong and are likely to survive the ECB’s rate hikes. Banks with strong deposits, good past performance and investor confidence, such as UniCredit, will likely perform well and could turn into profitable investment opportunities in the near future.
Citations:
Franklin, J., Noonan, L., & Walker, O. (2023, March 16). Credit Suisse shares rally after $54bn lifeline from Swiss Central Bank. Financial Times. Retrieved from https://www.ft.com/content/adb74b25-ee03-4bdd-8c7a-4dcc6c95fcac
Arnold, M. (2023, March 16). ECB raises rates with signal that market unrest will direct next steps. Financial Times. Retrieved from https://www.ft.com/content/1ef66275-6556-442a-ab5d-7bc23ada1681
Kenningham, A. (2023, March 15). SNB to provide Credit Suisse with liquidity if needed; £75bn wiped off FTSE 100 –as it happened. The Guardian. Retrieved from https://www.theguardian.com/business/live/2023/mar/15/government-extends-energy-bill-suppport-three-months-budget-for-growth-silicon-valley-bank-markets-business-live?CMP=share_btn_tw&page=with%3Ablock-6411c9178f08cc8edb7d6874#block-6411c9178f08cc8edb7d6874
Iordache, R., & Smith, E. (2023, March 13). HSBC pays £1 to rescue UK arm of Silicon Valley Bank after all-night talks. CNBC. Retrieved from https://www.cnbc.com/2023/03/13/hsbc-buys-silicon-valley-bank-uk-protecting-deposits-.html
Illien, N. (2023, March 15). Credit Suisse stock slump triggers close monitoring by Regulators. Reuters. Retrieved from https://www.reuters.com/business/finance/credit-suisse-shares-drop-fresh-record-low-cds-widen-2023-03-15/
Arnold, M., & Fleming, S. (2023, March 15). EU to speed up work on rules for failing banks in response to US crisis. Financial Times. Retrieved from https://www.ft.com/content/d6babb46-a25d-4378-9ed6-f861d378fb1b
Credit Suisse Group. (2023, March). 2022 Annual Report (PDF). Retrieved from https://www.credit-suisse.com/about-us/en/reports-research/annual-reports.html
Yahoo! (2023, March 17). Unicredit S.p.A. (UCG.MI) balance sheet. Yahoo! Finance. Retrieved from https://finance.yahoo.com/quote/UCG.MI/balance-sheet?p=UCG.MI
UniCredit. (2022). Consolidated First Half Financial Report as at 30 June 2022. Retrieved from https://www.unicreditgroup.eu/en/investors/financial-reporting/financial-reports.html
Noonan, L., Walker, O., Morris, S., Massoudi, A., & Fontanella-Khan, J. (2023, March 19). UBS agrees to buy Credit Suisse for more than $2bn. Financial Times. Retrieved from https://www.ft.com/content/ec4be743-052a-4381-a923-c2fbd7ea9cfd
Legal disclosure:
The projections or other information generated by BSTA regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual investment results, and are not guarantees of future results. As such, BSTA does not assume any legal responsibility for actions that may have been taken by readers associated with any investment projections made by the members of BSTA. There are risks associated with investing in securities. Investing in stocks, bonds, exchange traded funds, mutual funds, and money market funds involve risk of loss. Loss of principal is possible.
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