Sunday, 15 July 2018

HSBC primes the exits in IB

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It’s hard to know really what to make of this week’s HSBC’s “actions to capture value from our global presence in a changed world” in terms of what it means for the group’s investment bank and CEO Stuart Gulliver’s efforts to return it to (less ambitious) group target profitability by 2017. Except it basically consigns Samir Assaf to another bout of serial cutting of assets, businesses and people for at least another 18 months.

HSBC’s commitment to full-service investment banking has always been lukewarm, which explains why it’s never really threatened the incumbents at the apex of the industry despite its latent possibilities. Its interest in this business over the cycles and the decades has waxed and waned. In the next part of the cycle, it’s definitely waning.

It’s no secret that the global banking and markets division has been a drag on group performance, so it was no surprise that Assaf has been targeted with making the bulk of the RWA cuts as the group’s directional skew favours commercial and corporate banking. GB&M will be pretty heavily scaled down in key areas as a more carefully-filleted product suite emerges.

One analyst suggested the group could hit its cost-cut targets by shutting down the investment bank completely; acknowledging at the same time, though, that the loss of its profitability to the group would be less than helpful for shareholders and group value. The bank says having GB&M plugged integrally into the group drives US$8bn of cost synergies – which ironically is what GB&M’s adjusted profit before tax was in 2014. Interesting.

More of the same

Deutsche Bank’s change of management at the beginning of the week led to a spike in the share price. HSBC, by contrast, was trading down in the morning session Wednesday with no conviction, reflecting generally OKish-to-flabby reactions to the latest strategy chapter.

In truth, though, there was nothing really new announced from a strategic perspective; in fact it was less a strategy day than a tactics days. It was a continuation of the current programme that has been running ever since Gulliver took the helm; of stringent cost management and de-risking, including business-line and position offloads as well as country exits.

Exiting Brazil and Turkey – two key components of the BRIC/MINT complex – was perhaps a little surprising for a bank with a big EM footprint but then again it’s consistent with its axis swing to Asia.

Hitting a new group ROE target of around 10% will be barely above the cost of equity, but that’s as much the result of the regulatory and governance world banks now inhabit as it is about management’s abilities per se.

I was gobsmacked to see, incidentally, while on the subject of regulation and risk, that HSBC employed 7,200 compliance staff as of Q1 2015. That’s 4,000 more than in 2011. I have no idea how that compares to its peers, but on the basis that it’s probably comparable it strikes me that this is another example of how egregiously excessive and expensive the risk and regulation compliance regime has become.

Tough ask

Having already presided over around US$100bn of what the bank called ‘RWA mitigation’ in GB&M between 2011 and 2014, Assaf now has a US$140bn RWA tasking (a 31% reduction to get them to below a third of group RWAs) and a 2.5% RoRWA target for his client-facing businesses (requiring a mid-single digit growth in revenues). That’s at the same time as keeping his costs flat, while eating US$1bn-plus of inflation and investment growth cost increases. HSBC already has a smaller stack of client-facing balance sheet assets than its peers so it’ll be interesting to see how the cuts play out.

Running off a ton of non-core or underperforming (i.e. negative return versus cost of capital) assets into the distinctly tricky market that now confronts us won’t be easy. Prior to the latest bout of bond market volatility, sitting on positions had been a pretty decent ‘trade’. With Fed rate rises likely to create more volatility in an illiquid market, the bank could be in for a rocky ride. Offloading at a profit won’t be a walk in the park. One analyst pointed out that a better strategy would have been to have sold assets over 2012-2014 into a rising market, engineering a process of re-allocation to higher-returning assets from a position of strength. The timing is poor, but it is, as they say, what it is.

Business remix

GB&M is currently pretty well diversified across its business lines. Trading accounts for 35% of revenues (16% FX; 12% rates and credit; 7% equities); the corporate banking businesses 23% (across payments and cash management, global trade and receivables financing, and securities services); while Spencer Lake’s capital financing group makes 22%.

The focus now will be on businesses where the bank can be a top-five player. No great surprise there. But in this context, what the bank highlighted was insightful: on a global basis it’s payments and cash management, trade and receivables finance and project finance advisory; in Hong Kong it’s a full suite of FX, rates, credit, equities, securities services and DCM. In Asia ex-Japan it’s FX, rates, credit, equities, and securities services. The focus in Europe will be FX, rates, securities services and DCM; in MENA it’s FX, equities, securities services, DCM and ECM. In LatAm it’s FX and DCM.

Naturally, lists always create winners and losers. So as interesting as it is to see what businesses become focus businesses, seeing what doesn’t make the list is equally instructive. Businesses earmarked for exit include the long-dated rates and loan books in all regions. M&A and ECM will be grown in APAC but ‘optimised’ elsewhere, a slightly sinister word that basically means they won’t get any new investment and will be starved of any love. EMEA and Americas rates and equities also find themselves in this category.

To be honest, M&A and ECM are alien worlds for Assaf and Lake. The pair have tried to hire in some talent to make a better showing – the bank’s performance in ECM has picked up of late, although it’s still pretty middling – but M&A is a bit of non-starter. It’s just not in the bank’s DNA, to the point where I’m surprised M&A didn’t make into the exit quadrant.

Except, I guess, that you can maintain a skeleton advisory platform and get yourself onto event-driven assignments by dint of a sound coverage platform and by leading with other products. That way, wrapping yourself around major clients that do deals can project you into optically decent positions.

For example, HSBC’s financing-led work for Cheung Kong – acquisition of the rest of Hutchison Whampoa (US$45.4bn); spin-off of its property business (US$36.9bn) and Hutch’s US$15.38bn acquisition of O2 gave HSBC almost US$97bn of M&A credit. Put simply, Li Ka Shing has given HSBC two-thirds of its global YTD M&A credit and 88% of its Asia advisory credit, suggesting that Gulliver’s plan to stick very close to core multinational clients that fit its service model isn’t the worst idea in the world.

Taken in the round, though, HSBC’s latest actions have put it on the same flight path as – most recently – Deutsche Bank and Credit Suisse on that rather discomfiting journey to investment bank downscaling. Once they reach their destination, of course, they’ll meet those who took earlier flights – Barclays, RBS, UBS and others. The arrivals hall is getting pretty crowded.

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