Cameron vs Taleb? - No Contest!

The discussion about banking reform (or should it be non-reform?) reaches a comical aspect when David Cameron, PR Manager turned Politician, assumes that his approach to reforming the British banking system should take precedence over the deliberations of the experts that are members of the Independent Banking Commission. Reports indicate that the Prime Minister will brush aside a critical aspect of the recommendations made by the IBC, namely the separation of proper banking activities from investment banking (some might say gambling). While a go-alone approach to reform by the UK alone might well put UK-domiciled banks at a disadvantage versus their international peers we would think that the correct course of action would have been to intensify pressure on other countries to follow suit - at least the other EU member states might have been amenable to instigate similar conservative policies. In an article that was just published the other day, Nassim Taleb and Mark Spitznagel send a sharp criticism in the direction of the banking industry (and supine institutions that invest in them) which implies that banks need more not less regulation - in clear contrast to our PR Manager's view that seems to have been dictated to him by unaccountable lobbies. One wonders if the members of the IBC in that case would do the honorable thing - resign and openly defy the Prime Minister on the issue.

Banking Reform: Key problem no nearer to solution

Thousands of pages have been written about how to reform the banking system but we are no nearer to a solution. The key problem that needs to be solved is the fact that under the existing banking regulations the taxpayer is the ultimate guarantor of (most if not all) banking deposits. As long as this deficiency is not remedied we will not have a properly regulated banking system. If an engineer has to construct a bridge it is either safe or not. The same non-compromising yardstick should be applied when discussing solutions to the problems of the banking system.

CDS trading still poses danger to financial stability

During the height of the Credit Crunch we have repeatedly warned about the dangers of a self-feeding spiral that could destabilise companies and banks in particular. Nothing has been learned and the market's attack on Bankamerica seems to become a repeat performance of the chaos that was allowed to dominate the markets back then.

FATCA - the true tragedy

The absurd legislation making its way through the US government machine is a sad indictment for the inability of the European 'elites' to make a clear and determined stand in defending the interests of their citizens and the financial industry in the Continent. A simple threat to retaliate tit for tat and subject the US institutions to the same treatment would have stopped the whole nonsense right in its tracks. After all, if the US is so keen to catch potential tax cheats it could impose stringent controls on its own citizens, control all movements of money in and out of the country and in the process make a laughing stock of the expression 'land of the free'.

Worst M+A Deals in Banking History

Bankamerica/Countrywide Credit, Commerzbank/Dresdner Bank, Lloyds TSB/HBOS, RBS/ABN Amro....the list is long and the memories have begun to fade, but deals such as these should feature prominently in any business book or university class about 'Business Strategy' or 'M+A'. If all the high-powered executives at the helm of these institutions would have lived in the same spot one could have suspected that there was a suspicious substance in the local water supply that made them all lose their collective marbles while they were throwing away the wealth of their shareholders in an act of wanton destruction. And they cannot argue that they had not been warned. At the time the storm signs in the financial markets were clearly indicating force 12 on the Beaufort Scale. But while the damage has been done these deals should forever be a warning not to allow management - or deal-hungry investment bankers - to get into value-destructing transactions.

Regulation will atrophy banking industry

The failure of governments and regulators in reforming the global banking systems in any meaningful way is illustrated by news that more examiners will be "embedded" in the banks and securities firms they regulate (Wall Street Journal). I have always warned that a financial system that relies on regulation and not on competition will lead to the creeping takeover of all business decisions by a bureaucratic (and uncontrollable) monster where 'Kommissars' will have to vet any decision made by the business managers. These in turn will become more and more risk averse.

Oppenheim / Deutsche Bank - Haste makes Waste

While it may appear to be a cheap shot to criticise Deutsche Bank's takeover and rescue of Germany's venerable Sal. Oppenheim in the summer of 2009 one aspect of the transaction can definitely be described as representing poor management practice. As this report illustrates, the decision to bid for the bank was made with undue speed and it is clear that proper due diligence would not have been possible. Time may have been of the essence - it always is in rescue bids - but the bidder can only gain from any delay. If the situation the target finds himself in (Merrill Lynch, HBOS, Dresdner Bank) is really dire the value of the asset has only one way to go: Down. Managements of highly rated organisations such as Bankamerica, Deutsche Bank,  Lloyds TSB or Commerzbank should really be aware of this simple fact and all managements in all acquiring companies should never feel under time pressure (real or imagined) - as Terra Firma's Guy Hands found out to his cost when bidding for EMI.

How to prepare for slowdown in investment banking

Predictions of a decline of 16 percent in global investment banking revenues will pose a serious challenge for investment banks and securities dealers. Senior management is still trying to get a handle on all the regulatory changes they are hit with (and no end is in sight) and global markets in equities, commodities and bonds may be at or close to a peak. So the outlook is not rosy as declining markets usually also lead to a decline in market activity. One thing is clear: a stop-and-go management style in all likelihood will fail, hire-and-fire policies have been tried numerous times over the past 20 to 30 years and done nothing but demotivate and demoralise organisations (many of which have sadly disappeared from the industry). Managements are called to get away from 'macro-management' (lots of flip charts, off-site meetings, management consultants) and buckle down to manage the everyday aspects of their businesses, nurture staff - and above all manage the often inflated expectations regarding compensation that their employees might still garner.

UBS: dramatic appeal by Chief Executive Gruebel

Oswald Gruebel's dramatic appeal to the staff of UBS's US investment banking staff demonstrates the difficulty of managing today's sprawling international banking businesses. Once an operation is - rightly or wrongly - under pressure due to difficult markets or competitive weaknesses it requires near-superhuman skills to put the ship on the right course again. Investment Banking, Securities Dealing and Investment Management are basically simple businesses when one looks at their basic constituents but as I always say: it is not brain surgery, but people - and companies - who want to succeed in these businesses need a blend of a lot of different skills and it is exactly this combination that is the challenge - especially when the 'assets' of the business walk out of the door every evening.

Good Management must show Empathy

If reports are true that the UBS's chief of investment banking scolded his staff for behaving like spoiled children he may well have said the truth. But if the report is also true with respect to the reaction by staff it highlights one fact: it is not only what you say that counts, it is also important how you say it. Morale - especially in a people business like investment banking - is a fickle thing and it can easily evaporate and hole a company below the water line.

Bank Austria pays for costly Kazakh mistake

We were concerned about the high price that BA paid for ATF Bank in 2007 and our worries about buying an emerging market bank were proven correct. Regulators in Almaty have asked BA to inject another Euro 198 million. The lesson should be clear: never buy such risky assets in a seller's market.

Not all firms can occupy top position

When a senior executive of UBS admits that the bank may no longer aim for the top spot in the rankings of global investment banks he puts the business on a more sensible and realistic footing.
Aiming for the top may be useful to encourage ambition but it can also be destructive if carried too far. Like in sport, there can only be one winner in business and being number 2, 3 or even 10 does not automatically brand you a failure.

Mitsubishi/Morgan Stanley JV loses big on Derivative Bet

One should have thought that the turmoil of the past few years has led managements in all securities units to batten down the hatches and keep to a strict regime of risk management in all trading activities. That two major participants in the global investment banking business have to book a loss of nearly 1 billion dollars on a trading strategy that went wrong beggars belief. The more things change, the more they seem to stay the same....

Size matters - but not in the way the consultants think

A well-known consultant to private banks recently claimed that smaller (Swiss) Wealth Management Banks face a challenging future. The problem with this one-dimensional view is that size does not have to be a valid variable when drafting a path for the future development of any financial institution. If the small banks have no future, the middle gets squeezed and the big ones are too big, who is going to survive? The consultants have a lot of explaining to do as they can not all be right at the same time. Experience and common sense should be the guide as banks in each of these categories can prosper if they make the right decisions.

Employment Contract: Court Judgement

An interesting document for all those interested in the intricacies and potential pitfalls of employment contracts (Source)

CDS - Why not prohibit states issuing debt?

When a professional party politician like the MEP Markus Ferber (he is a charge on Europe's citizens since the tender age of 29!) states that prohibiting uncovered CDSs on government bonds is under serious consideration we see that one thing is certainly represented in the useless European Parliament: ignorance about financial markets! I am critical of Credit Derivatives for a number of reasons as this blog documents but prohibition by the EU and/or its member states would simply drive the business to friendlier shores. The flood of government paper in itself is a sort of uncovered short sale that can only be described as a Ponzi scheme. As the debt level inexorably rises towards a tipping point - close to or above 100 percent of GDP - the political class that is addicted to buy votes by spending other people's money becomes increasingly desperate in the search for ways to extend its spending spree a little further - at least beyond the next election.

UBS CEO raises doubts about London

Oswald Gruebel, CEO of UBS, wants the British government to state its intentions concerning regulation and taxation that will affect the banking sector in the years to come. Gruebel states that it is very difficult to work in a constantly-changing environment and that there may be a point where it becomes preferable to de-emphasise London as a business hub. In my opinion there is a danger that the City of London may suddenly reach a critical 'tipping point' though it is not obvious if the candidates to take over a large part of the business are really an alternative. Zurich would simply not have the capacity and Frankfurt and Paris are not exactly free from regulatory overgrowth. CS may have be a special case as it has a large hub in its Swiss headquarter and the duality of two large centres pose a management problem in terms of duplication and coordination that American or Asian banks coming to Europe do not have when concentrating European activities in London.

Arbitrary Bonus Awards - potential for contentious litigation

A recent court judgement illustrates again that arbitrary bonus awards and redundancy decisions should be avoided at all costs. Not only do they demonstrate poor judgement by the managers responsible but they also put their employers into a bad light. We have argued for a long time that it is just not good enough to make bonus or redundancy decisions on the basis of 'whose face fits in'. The secrecy surrounding bonus decisions is a contributing factor to this problem. Bringing qualitative judgements into decisions which ultimately revolve about hard numbers and money allow abusive practices to flourish. In addition, the revenue potential that an individual employee has is also dependent to a large extent on the client base he is allocated or the product he is assigned to trade (and the dealing limit he is given). It would therefore be much better if a large part of all bonus payment would be allocated on a firm-wide basis (or based on departments). In addition the much maligned percentage basis (related to profits, credits or whatever) would also put bonus decisions onto a more objective (and less contentious) basis.

Profitability of Commodities business disappoints

The headlong rush into the commodities business may not be as profitable as banks and brokers expect. Each commodity requires special skills and it is expensive to support teams in all of these distinct market niches. But the focus of attention shifts from on product to the next and it is tricky to anticipate the next hot market. Playing catch-up is a futile game as a bank may have hired expensive teams only to see the specific sector to cool down and prevent lucrative business from paying for the new hires. There is also regulatory risk as authorities may clamp down on what some describe as a casino that is not serving the real economy as much as investors and speculators. It is quite conceivable that commodities may be declassified as eligible investments and treated more harshly by tax legislation. Business volumes could drop precipitously if that would ever be the case.

Barclays: Protium deal worries shareholders

A look at the longer-term performance of the shares of some of the leading 'universal' banks confirms that shareholders have largely been left out of the party when it comes to sharing the wealth generated by the explosive growth of financial markets during the past two decades. So it should not be a surprise that more than one eyebrow is raised about the cosy deal that was struck between Barclays Bank and a number of its employees when $12.3 billion of toxic assets were sold to the Protium off-balance sheet vehicle in September 2009. It is not obvious why this transaction was necessary as the amount is quite insignificant compared to the Bank's total balance sheet. As is often the case when banks dispose of unwanted assets one has to ask why outside parties should get the upside. Surely the price of any such deal reflects what should be a realistic market price. Why would a bank - once it has accepted market reality - not stick to an asset that has been marked down to a new - and more attractive - price level? The only explanation we can come up with is bureaucratic inertia or intellectual lazyness thus opening an opportunity for outsiders with an eye for value

UK banking regulators: lunatics at the controls?

When 'bank regulators are launching a new type of "stress test" that forces banks to consider unlikely but potentially disastrous scenarios like a flu pandemic or disruptions to the country's food-supply chain' (Wall Street Journal, 11 Feb 2011) one has to ask if regulatory creep has reached the lunatic stage. I wonder when banks are asked to plan for the possibililty of an asteroid impact.

Forced Ranking: UBS falls for Management Fad

The 'forced ranking' human resource management tool introduced by CEO Oswald Gruebel at UBS has created bad blood among employees at the bank. The instrument that can at best be called controversial (and inhuman at worst) has attracted massive criticism as a quick Google Search will demonstrate. Top of the list are negative references and it can only be seen as a sign of desperation that a company that traces its roots back over more than one century finds itself compelled to reach out for such a measure in order to improve its inadequate - and at times catastrophic - performance. It is quite difficult to understand why a CEO who has always led from the front - Gruebel started out as a bond trader and was for a while the star of the nascent Eurobond market - would fall for a concept that has been abandoned by other companies. The cost-income ratio in the investment bank may well be too high at 80% but it would be better to cut the fat in one fell swoop rather than drag out the agony. Regular reviews are in any case now an over-hyped fad that waste much employee time, create bad blood and serve only to boost the sense of self-importance in the human resource departments.

Andrew Smithers on Banking Equity Ratios, Competition and Pay

We heartily recommend Andrew Smither's latest comments on the failure of banking regulation. Smithers argues that higher capital ratios would limit public subsidy to banks and pose no threat to lending volumes - if anything, banks would lend more than under the ill-considered Basel III capital ratios that come into effect in 2018.

Raiffeisen buys 70 pct of Polbank - valuation more realistic than pre-crunch

News that the Austrian Raiffeisen International buys a 70 pct stake in the aptly named Polbank in Poland confirms that the market for banking assets in the emerging markets is still decoupled from the market valuations in many developed markets. The price paid to the former holder of the stake, the Greek Eurobank EFG, represents around 12.7 pct of Polbanks balance sheet of Euro 5.5 billion (per Sept 2010). This is a much less aggressive valuation than those seen applied to banks in Eastern Europe a few years ago but still puts a lot of hope into the possibilities of reaping economies of scale from merging the business with Raiffeisen's existing network in Poland.

Tax burden in UK becomes problematic

A simple calculation in the sports section of a British newspaper came to the conclusion that a football player who would move to England on a total compensation of Euro 3 million would take home only around half that amount after the deduction of all taxes. In Switzerland his take-home pay would be nearly 2.4 million. Obviously this also has clear implications for Britain's standing as a global financial centre. With discrepancies as large as this the decline in London's relative attractiveness - especially for foreign professionals - becomes evident.

Smaller players will win market share in Investment Banking

We agree with Chris Whalen, MD of Institutional Risk Analytics, when he predicts that smaller firms will gain market share in investment banking and fill in the gaps left by the demise of several large firms during the Credit Crunch. Regulation will also to a certain extent clip the wings of the dominant firms and force them to reduce their activities in certain business segments.

Regulation runs amok

A 'Discussion Paper' published by the Swiss regulator FINMA on the subject of regulating the marketing of financial products to private clients runs to 132 pages. It is a classic example to the regulatory overkill that threatens the financial service sector, increases costs for the end-investor and - due to its complexity - will hardly achieve its stated goal, the provision of better and cheaper financial products to the retail investor. More and more prescriptive regulation means that ultimately behind each productive worker there will have to be a 'Commissar' (Compliance Officer) and an army of lawyers and assorted busybodies. No action will be taken before they get the Okay from the compliance department. And of course, the compliance department will have to be supervised in turn and so on ad infinitum. Final destination is an economic system that is close to the Stalinism of the old Soviet Union.

Morgan Stanley may try to offload Hedge Fund stake - a warning

Rumors about Morgan Stanley's efforts to offload its stake in the hedge fund firm Frontpoint should be seen as a warning for potential investors in hedge fund businesses. Often these firms are dependent on one or a small handful of managers. If any troublesome news hits the business the value of the firm may evaporate very quickly. Potential acquisitions in the field should only be undertaken in an extremely cautious way and structured so that it is not just a win-win proposition for the selling insiders.

Who is Steven Maijoor?

The regulatory vampire squid that is being created by an EU officialdom that is several stages removed from any democratic control is likely to nominate a professor with only the scantiest first-hand experience in the financial markets to be the head of the European Securities and Markets Authority. Bureaucracies such as the one created to 'regulate' the financial system in the EU have as their primary aim the expansion of their own powers and the creation of jobs for those working for them. If the EU and its member governments would really have wanted to improve the functioning of the financial system they would have had ample time to design a better legal framework during the past two years. Are we on an inevitable path towards a situation where there will be more regulators and compliance officers working in finance than wealth-producing professionals? In that case, we should have a good look at the banking and insurance system as it was during the good old days of the Soviet Union in order to prepare ourselves.

Credit Suisse Compensation Plan - Incentive or Disincentive?

While the new compensation structure that has just been announced may at first sight appear to be a step in the right direction it raises a number of questions: relying on the return on equity may be an incentive to increase leverage (and risk) in order to achieve a superior ROE. Making payouts over a number of years could lead to employees just marking time in order to cash in the awards. Depressed share prices and/or a low return on equity may punish hard-working employees that have no influence over either of these two yardsticks. At the same time top management is free to award itself levels of compensation that are high enough to shelter them from the negative fall-out from these two factors, thus creating an unhealthy 'them and us' atmosphere that is not conducive of good team-work.
One unintended effect of complicated and onerous compensation structures dreamt up by the big investment banks may well be that smaller competitors will become a more attractive employer. Younger employees in particular will not be able to spend these 'awards' to support a young and growing family when you need cash for housing, education and other pressing needs.

Open letter to members of the UK Treasury Select Committee

With reference to today's hearing I would like to point out that compensation for Bankers cannot be seen in isolation. Pay for staff in other sectors of the financial services industry - especially in the so-called 'Private' Equity business as well as in Hedge Funds - exerts a strong influence on pay levels in (investment) banking and the securities business. In addition, the problem of spiralling compensation for (top) executives in general industry and business is far from being resolved and also influences the general atmosphere with respect to control (or lack of control) of senior executive pay.

Central Clearing: Solution or Problem?

Pushing more business onto central clearing systems is not the ultimate solution in the search for a more stable financial system. The question remains the same: Would the system be able to deal with a (near instantaneous) change of 20 or 30 pct of asset prices? Only then could one be reasonably sure that a market panic could not topple the financial system. But that would require a substantial increase in margin rates and a corresponding reduction in the amount of leverage available to all market participants.

M+A: Success ratio lower than at Russian Roulette

The statement may seem to be a bit extreme but anyone contemplating a Merger or Acquisition would do well to keep this warning in mind. All too often senior management falls in love with an idea or is egged on by advisers who are paid on completion only and therefore have no real stake in the ultimate success of the transaction.

Compensation gravy train: one train in the UK that you can rely on!

A woman has been awarded half a million pounds in a series of compensation payments after accusing four public sector employers of discrimination, unfair dismissal or sexual harassment (Daily Telegraph, 11 Nov 2010). While a disproportionate amount of claims are settled in the Public sector the financial sector is also vulnerable to the frightening rise in red tape and social engineering created with little regard to the realities of private business.

Patchy hiring to follow frenzy at European banks says Reuters

The real test of management will come when business volumes have declined so much that present staffing levels can no longer be justified. Those companies that have hired wisely and responsibly will have to do much less pruning than those that adhere to a irresponsible 'hire and fire' philosophy of human capital (mis)management.

Tulips anyone?

That comes to mind when reading about the frenzied trading in today's story stocks such as Facebook, Twitter and Linkedin. Which bank will it be that is left holding the bag financing a speculative hot-shot when the whole bubble bursts?

Deutsche Bank: rated most exposed by Japanese Regulator

While Deutsche Bank has performed admirably (at least on a comparative basis) during the financial Crash we kept being concerned about the slender margin of safety that is provided by the equity capital basis. DB may be less exposed to sovereign loans in the Eurozone and corporate loans may also be a lower part of its portfolio than in other institutions but that means that the bank is more exposed to financial assets and counter party credits. And the purchase of supposedly 'safe' businesses such as Deutsche Postbank and Oppenheim are by no means guaranteed to provide the high returns that management continues to aim for. News that Deutsche Bank is the lucky (?) owner of the most recent addition to the Las Vegas hotel scene does little to inspire confidence in the bank's risk management skills. Maybe the bank should pay its bonuses in the form of free hotel vouchers until the full extent of its exposure has been recouped.

UBS dress code memo

UBS was (and is?) known for fast-tracking officers of the Swiss Army Militia through its management ranks. We are not sure that the 'new UBS' (post SBC 'Merger') adheres to the same management principles. But given the fact that banks worldwide are inundated with more or less sensible regulations it is amazing that someone in the - still vast - bureaucracy of a large bank finds the time to devise such a detailed prescriptive paper. Rulebooks such as this tome certainly would not surprise anyone if it would be given to fresh recruits in an army barrack. I wonder what it does to promote morale at the workplace?

Deutsche Boerse: another Euro 450 mio written off on ISE

In 2007 the German Stock Exchange (Deutsche Boerse) acquired the International Stock Exchange ISE for more than Euro 2 billion. This write-off follows a provision of Euro 420 million in the last quarter of 2009. Acquisitions are minefields for the unwary and should only undertaken after careful analysis and after consulting advisers that give objective advice based on long financial and markets experience.

Secretive Banking Elite rules Trading in Derivatives?

A New York Times report highlights the lack of official supervision of trading in derivatives. In no industry would it be allowed that the dominating participants collude setting market rules without being subject to impartial outside regulation - be it from consumers or government authorities. When the market in OTC derivatives started it was a tiny cottage industry and supervision was unnecessary. Now the amounts involved are so enormous - multiples of the whole planet's GDP - that leaving the task of supervision to a few market insiders is no longer practical. One can only hope that the top officials of the financial firms concerned realize that - in the interest of society as well as their own - a new regulatory framework is urgently required. Putting the majority of the trading onto exchanges will alleviate the risks of a catastrophic market failure but this will in itself not be enough. The central clearing houses in turn will have to be made as secure as possible and only a substantial increase in margin that has to be posted by ALL market participants will ensure a safe market environment.