Has Tidjane Thiam got the right strategy at Credit Suisse? It's something we and others have been asking for sometime. And in light of J.P. Morgan's second quarter results yesterday, it's something worth asking again.
At issue is Thiam's decision to cut Credit Suisse's rates business. As we reported in May, eight out of nine members of Credit Suisse's rates desk were let go earlier this year. That's unfortunate given that rate desks seem to have been the big beneficiaries of the so-called, "Brexit bounce". J.P. Morgan CFO Marianne Lake said yesterday that J.P. Morgan had a "particularly strong" quarter in rates as desks benefited from post referendum volatility.
Credit Suisse isn't due to report its second quarter results until July 28, but it's safe to assume there'll be none of this. Thiam's strategy is, instead, focused on credit trading, which Lake said was "very strong" - but less so than rates.
The trouble is that rates businesses are capital hungry. They'll be all the more so when the Fundamental Review of the Trading Book takes effect in 2019 and requires banks to hold more capital against rates trades. Last year Thiam announced that Credit Suisse would be cutting the capital allocated to its macro (rates and FX) business by 72%. He certainly needs to do something - banking analysts at UBS estimate that Credit Suisse will achieve a return on equity of just 0.9% this year, after just 2.4% in 2015.
Much as Credit Suisse needs to conserve capital, however, it also needs to generate revenues. In the first quarter of 2016, revenues in Credit Suisse's markets business were down by 60% year-on-year. As the Swiss bank cuts risk weighted assets (RWAs) and headcount, the danger is that it also erodes its revenue base and profitability, prompting more cuts to RWAs, leading to a further decline in revenues, and so on.
In 2015, the top three banks for rates trading in EMEA were Barclays, Citi, and Deutsche Bank. Credit Suisse didn't feature in the top six ranking from Greenwich Associates, which is unsurprising given that Thiam's predecessor, Brady Dougan, took a hatchet to rates trading too. In those bubble charts Dougan liked so much, the rates traders were always in the wrong quadrant.
For market leaders like Barclays, however, the capital intensity of the rates business seems a pain worth bearing. Barclays' CEO Jes Staley said in March that he had no intention of dramatically cutting risk weighted assets at Barclays because doing so would, "reduce the investment bank’s core functionality and ability to compete in the top tier". Barclays macro business suffered a 13% decline in revenues in the first quarter, but its investment bank generated a return on equity of 7.3% all the same.
If J.P. Morgan's rates success is repeated across the industry, Staley is likely to be vindicated when Barclays reports later this month. Thiam, meanwhile, can only hope that J.P. Morgan's banking analysts were right when they suggested that any boost to rates desks from Brexit is likely to be temporary and will dissipate in the second half.