Financials Credit Analyst

Hank Calenti, CFA

CreditContinuum

Credit

Executive Summary: The <a href="https://www.smartkarma.com/entities/credit-suisse-group-ag" target="_blank" data-smartkarma-citation="entities:22253:1" rel="noopener">Credit Suisse Group (CSGN VX)</a> requires between CHF4 to 8bn in additional Common Equity Tier 1 (CET1) to remain competitive and bring its capital buffer in-line with peers. We noted several week ago that the firm’s capital buffer was too thin to absorb large losses while its Contingent Capital (CoCo) securities continued to trade rich relative to peers. The thin, and likely declining, buffer may now affect its ability to compete. In our view, the issue is quickly moving from damage control towards a capital raise.We derive our capital estimates by starting with the amount required to bring the CET1 buffer up to peer levels. To this we add various exceptional charges which are increasing every other week. Details within.We were ahead of the market with our Underweight recommendation on CS bonds. When we initiated this call, the CS 4.5% coupon 2030 callable Additional Tier 1 bond was trading close to par. It is now below $95. Our recommendation was based on a fundamental assessment of CS’ business model, risk tolerance and capitalization. Please see: <a href="https://www.smartkarma.com/compose/insight/49775/Credit%20Suisse%20%E2%80%93%20Perfection%20Priced%20into%20Long-Dated%20AT1.%20Read%20more:%20https:/skr.ma/7w5Cm" target="_blank" rel="noopener">Credit Suisse – Perfection Priced into Long-Dated AT1</a> for more details. These negative factors were magnified by the Greensill episode. Please see: <a href="https://www.smartkarma.com/compose/insight/49775/Credit%20Suisse:%20Greensill%20Sows%20Reputation%20Risks,%20Underweight%20CS%20Bonds.%20Read%20more:%20https:/skr.ma/tq31o" target="_blank" rel="noopener">Credit Suisse: Greensill Sows Reputation Risks, Underweight CS Bonds</a> and <a href="https://www.smartkarma.com/compose/insight/49775/Credit%20Suisse:%20Greensill's%20Capital%20Implications%20Outweigh%20Asset%20Management%20Corrective%20Action.%20Read%20more:%20https:/skr.ma/WWiXU" target="_blank" rel="noopener">Credit Suisse: Greensill's Capital Implications Outweigh Asset Management Corrective Action</a>. The Archegos affair adds fuel to this fire.It is too early to consider this a buying opportunity. While we believe in our recapitalization call, we do not anticipate an immediate move towards improving the firms’ competitive position. The flames are rising and more fuel could be added before the capital blanket is applied. As such, we believe CS’ bonds may continue to lag that of its peers.However, the Swiss regulator may be unwilling to wait for the smoke to dampen and the arrival of a new Board Chairman should create the opportunity to clear the air at Credit Suisse. Obviously in addition to raising equity, CS would need to take serious action concerning its risk management and tolerance. Risk tolerance needs to be reduced until risk management is improved as these are the embers which stated this fire. This should be beneficial to AT1 investors over the long-run.

Executive Summary: The Credit Suisse Group (CSGN VX) requires between CHF4 to 8bn in additional Common Equity Tier 1 (CET1) to remain competitive and bring its capital buffer in-line with peers. We noted several week ago that the firm’s capital buffer was too thin to absorb large losses while its Contingent Capital (CoCo) securities continued to trade rich relative to peers. The thin, and likely declining, buffer may now affect its ability to compete. In our view, the issue is quickly moving from damage control towards a capital raise.We derive our capital estimates by starting with the amount required to bring the CET1 buffer up to peer levels. To this we add various exceptional charges which are increasing every other week. Details within.We were ahead of the market with our Underweight recommendation on CS bonds. When we initiated this call, the CS 4.5% coupon 2030 callable Additional Tier 1 bond was trading close to par. It is now below $95. Our recommendation was based on a fundamental assessment of CS’ business model, risk tolerance and capitalization. Please see: Credit Suisse – Perfection Priced into Long-Dated AT1 for more details. These negative factors were magnified by the Greensill episode. Please see: Credit Suisse: Greensill Sows Reputation Risks, Underweight CS Bonds and Credit Suisse: Greensill's Capital Implications Outweigh Asset Management Corrective Action. The Archegos affair adds fuel to this fire.It is too early to consider this a buying opportunity. While we believe in our recapitalization call, we do not anticipate an immediate move towards improving the firms’ competitive position. The flames are rising and more fuel could be added before the capital blanket is applied. As such, we believe CS’ bonds may continue to lag that of its peers.However, the Swiss regulator may be unwilling to wait for the smoke to dampen and the arrival of a new Board Chairman should create the opportunity to clear the air at Credit Suisse. Obviously in addition to raising equity, CS would need to take serious action concerning its risk management and tolerance. Risk tolerance needs to be reduced until risk management is improved as these are the embers which stated this fire. This should be beneficial to AT1 investors over the long-run. 

Credit Suisse: Where There’s Smoke, There’s a Capital Raise

Silver Point

Thomas J. Monaco

Independent Insight Provider

Silver Point is a boutique research firm that focuses on the broader financial services sector, with a particular focus on troubled institutions globally. 

Asia Ex Japan

Equity Bottom-Up

*US Greensill Arm Declares BK: On March 25, 2021, Greensill filed for Chapter 11 bankruptcy protection for its US subsidiary, Greensill Capital Inc. (GCI), in the Southern District of New York. GCI sold Greensill products in the US with revenue passing directly through to the Greensill in London; and*Watch Your Risk: Greensill allegedly has USD 5 bn in risk outstanding to GFG Alliance Group (GFG) – a company owned by Sanjeev Gupta, who appears to be at the center of this entire debacle. Credit Suisse, GAM Holdings (GAM.VX), Tokio Marine Holdings (8766.JP), SoftBank Group (9984.JP) amongst many others are likely to be further impacted given the growing uncertainties of Greensill and GFG Alliance.

*US Greensill Arm Declares BK: On March 25, 2021, Greensill filed for Chapter 11 bankruptcy protection for its US subsidiary, Greensill Capital Inc. (GCI), in the Southern District of New York. GCI sold Greensill products in the US with revenue passing directly through to the Greensill in London; and*Watch Your Risk: Greensill allegedly has USD 5 bn in risk outstanding to GFG Alliance Group (GFG) – a company owned by Sanjeev Gupta, who appears to be at the center of this entire debacle. Credit Suisse, GAM Holdings (GAM.VX), Tokio Marine Holdings (8766.JP), SoftBank Group (9984.JP) amongst many others are likely to be further impacted given the growing uncertainties of Greensill and GFG Alliance. 

Slower near-term growth may be risk asset positive. A slower growth trajectory may engender reduced inflation expectations which could translate into lower Treasury yields and a lower dollar value. This could produce a longer, more sustainable, recovery rather than the current soufflé economy track. That would be Emerging Market positive. Germany announced, then retracted, plans to institute a tougher lock-down over the Easter weekend. This raised fears that a third wave of Coronavirus cases could impact demand globally. This may have contributed to a flight to safety and increased bearish pressure across risk assets as investors re-assessed near term GDP expectations.Risk assets have been discounting an inflationary surge in growth ahead. However, as US Covid-19 cases rise and European vaccination programs lag, prospects for US Q1 and Q2 GDP are deteriorating by the day. Ironically, various supply-chain disruptions, which could negatively impact production in coming month, may slow growth more than it boosts inflation. This could also be Emerging Market positive.US Treasuries continued their sawtooth upwards pattern of declining then rising. Transitory and more permanent factors impacted US Treasury and risk-asset returns this week. Notably, real rates remained steady.Transitory effects included supply plus month-end and quarter-end rebalancing which put pressure on yields. More permanent factors likely included less draconian SLR exemption interpretations and possibly the economic demand impact of vaccine distribution difficulties as Covid-19 infections rise. Amongst Asia EM banks, India bank equity continued its underperformance while Thai banks remained relatively unchanged following notable banking-related announcements in each country.The decline in India’s bank shares exceeded others in Asia. The interest-on-interest accrual decision, and the valuation of Additional Tier 1 bond guidance by the Supreme Court and the Securities &amp; Exchange Board of India (SEBI), respectively, are particularly onerous and damaging to bank valuations.In Asia, short duration bank bonds outperformed although most bank notes generated total positive returns on Treasury price strength.  Liquidity in Turkish bank bonds dried-up as the fall-out from the unexpected firing of the Central Bank Governor last week.Market Outlook: The question for next week is how much portfolio re-balancing out of stocks and into bonds has already occurred. This normally would take place during the last week of the quarter. However, with month-end just before Easter market holidays, trading conditions may be relatively thin next week. As such, portfolio adjustments may have been pulled forward. From a risk asset perspective, it may be wise to jump back into the market before the quarter-end to get ahead of the pack. From 1 April, with the start of Japan’s fiscal year, Japanese investors are typically net buyers of risk assets over the following months. This adds to a seasonality affect that usually pushes risk assets higher while safe-haven securities retreat.

Slower near-term growth may be risk asset positive. A slower growth trajectory may engender reduced inflation expectations which could translate into lower Treasury yields and a lower dollar value. This could produce a longer, more sustainable, recovery rather than the current soufflé economy track. That would be Emerging Market positive. Germany announced, then retracted, plans to institute a tougher lock-down over the Easter weekend. This raised fears that a third wave of Coronavirus cases could impact demand globally. This may have contributed to a flight to safety and increased bearish pressure across risk assets as investors re-assessed near term GDP expectations.Risk assets have been discounting an inflationary surge in growth ahead. However, as US Covid-19 cases rise and European vaccination programs lag, prospects for US Q1 and Q2 GDP are deteriorating by the day. Ironically, various supply-chain disruptions, which could negatively impact production in coming month, may slow growth more than it boosts inflation. This could also be Emerging Market positive.US Treasuries continued their sawtooth upwards pattern of declining then rising. Transitory and more permanent factors impacted US Treasury and risk-asset returns this week. Notably, real rates remained steady.Transitory effects included supply plus month-end and quarter-end rebalancing which put pressure on yields. More permanent factors likely included less draconian SLR exemption interpretations and possibly the economic demand impact of vaccine distribution difficulties as Covid-19 infections rise. Amongst Asia EM banks, India bank equity continued its underperformance while Thai banks remained relatively unchanged following notable banking-related announcements in each country.The decline in India’s bank shares exceeded others in Asia. The interest-on-interest accrual decision, and the valuation of Additional Tier 1 bond guidance by the Supreme Court and the Securities &amp; Exchange Board of India (SEBI), respectively, are particularly onerous and damaging to bank valuations.In Asia, short duration bank bonds outperformed although most bank notes generated total positive returns on Treasury price strength.  Liquidity in Turkish bank bonds dried-up as the fall-out from the unexpected firing of the Central Bank Governor last week.Market Outlook: The question for next week is how much portfolio re-balancing out of stocks and into bonds has already occurred. This normally would take place during the last week of the quarter. However, with month-end just before Easter market holidays, trading conditions may be relatively thin next week. As such, portfolio adjustments may have been pulled forward. From a risk asset perspective, it may be wise to jump back into the market before the quarter-end to get ahead of the pack. From 1 April, with the start of Japan’s fiscal year, Japanese investors are typically net buyers of risk assets over the following months. This adds to a seasonality affect that usually pushes risk assets higher while safe-haven securities retreat.

Bank Credit Weekly: Growth Concerns May Be Total Return Positive

<a href="https://www.smartkarma.com/entities/jpmorgan-chase-co" target="_blank" data-smartkarma-citation="entities:277:1" rel="noopener">JPMorgan Chase &amp; Co's (JPM US)</a> fortress foundation needs repair. Rather than a rock-solid balance sheet, JPM’s capital foundation needs to be strengthened to handle the leverage load. It has the lowest Supplementary Leverage Ratio (SLR) amongst the largest US banks and its Tier 1 securities suffer, in part, due to this. It is time to lighten the leverage exposure and add a layer of capital. This creates an investment opportunity.As the pandemic-induced economic crisis unfolded last year, we noted that JPM Tier 1 securities were over-bought relative to the leverage exposure risk at the institution. Please see: <a href="https://www.smartkarma.com/compose/insight/49670/Bank%20Credit%20Weekly:%20US%20Capital%20Buffer%20Risk%20&amp;%20Q1%20Earnings%20Reports-%20JPMorgan%20Looks%20Slightly%20Overbought.%20Read%20more:%20https:/skr.ma/uQHaQ" target="_blank" rel="noopener">Bank Credit Weekly: US Capital Buffer Risk &amp; Q1 Earnings Reports- JPMorgan Looks Slightly Overbought.</a>The Fed exemption of Treasury securities and deposits with the central bank from the SLR bought JPM time. Fast forward one year later to the expiration of these exemptions and, despite ample opportunity, JPMorgan did not issue Tier 1 securities until only two weeks ago when it brought a $25 par security. In additional to raising needed capital, the firm recently threatened to stop taking deposits. It may price itself out of the deposit market, temporarily, but this is not a long-term strategy. The SLR is the binding capital constrain on the firm’s asset growth. JPM needs to obtain or retain more Tier 1 capital. We quantify this within.We believe that JPM could easily bring a 10-year Tier 1 bond to the market and find between US$2 to US$3bn in demand, thereby taking the total Tier 1 financing needs, or balance sheet optimization equivalent, down materially for the remainder of the year. Based on its recently issued Preferred, we believe JPM could achieve a price of Treasuries plus circa 300bps in a 10-year Tier 1 note.Aside from its SLR level, JPMorgan’s credit metrics are on-par with, if not superior to, most other large systemically important financial institutions. And yet, as we present within, JPM’s Tier 1 bonds trade at a discount to materially weaker banks located outside the US. Furthermore, we find that JPMorgan’s 2025 callable Tier 1 bond is at least 40bps oversold as, in our view, its call option is overvalued by the same amount.JPM faces an inflection point with respect to its capital adequacy. Concurrently, the Fed may re-adjust the SLR requirements before year-end; however, we believe it would be foolish of JPM not to take the opportunity to increase its SLR in an improving economic environment. It should re-enforce the foundation of its fortress balance sheet. We believe investors should pre-position for this eventuality. We recommend overweighting JPMorgan’s Tier 1 securities.

JPMorgan Chase &amp; Co's (JPM US) fortress foundation needs repair. Rather than a rock-solid balance sheet, JPM’s capital foundation needs to be strengthened to handle the leverage load. It has the lowest Supplementary Leverage Ratio (SLR) amongst the largest US banks and its Tier 1 securities suffer, in part, due to this. It is time to lighten the leverage exposure and add a layer of capital. This creates an investment opportunity.As the pandemic-induced economic crisis unfolded last year, we noted that JPM Tier 1 securities were over-bought relative to the leverage exposure risk at the institution. Please see: Bank Credit Weekly: US Capital Buffer Risk &amp; Q1 Earnings Reports- JPMorgan Looks Slightly Overbought.The Fed exemption of Treasury securities and deposits with the central bank from the SLR bought JPM time. Fast forward one year later to the expiration of these exemptions and, despite ample opportunity, JPMorgan did not issue Tier 1 securities until only two weeks ago when it brought a $25 par security. In additional to raising needed capital, the firm recently threatened to stop taking deposits. It may price itself out of the deposit market, temporarily, but this is not a long-term strategy. The SLR is the binding capital constrain on the firm’s asset growth. JPM needs to obtain or retain more Tier 1 capital. We quantify this within.We believe that JPM could easily bring a 10-year Tier 1 bond to the market and find between US$2 to US$3bn in demand, thereby taking the total Tier 1 financing needs, or balance sheet optimization equivalent, down materially for the remainder of the year. Based on its recently issued Preferred, we believe JPM could achieve a price of Treasuries plus circa 300bps in a 10-year Tier 1 note.Aside from its SLR level, JPMorgan’s credit metrics are on-par with, if not superior to, most other large systemically important financial institutions. And yet, as we present within, JPM’s Tier 1 bonds trade at a discount to materially weaker banks located outside the US. Furthermore, we find that JPMorgan’s 2025 callable Tier 1 bond is at least 40bps oversold as, in our view, its call option is overvalued by the same amount.JPM faces an inflection point with respect to its capital adequacy. Concurrently, the Fed may re-adjust the SLR requirements before year-end; however, we believe it would be foolish of JPM not to take the opportunity to increase its SLR in an improving economic environment. It should re-enforce the foundation of its fortress balance sheet. We believe investors should pre-position for this eventuality. We recommend overweighting JPMorgan’s Tier 1 securities.

US Banks and the SLR Situation: Overweight JPM Tier 1 Securities

*Greensill Tab Begins:Greensill Capital (Greensill) filed for insolvency in the United Kingdom after lawyers for had cited Greensill’s inability to repay a USD 140 mn bridge loan provided by Credit Suisse Group (CSGN.VX) [Credit Suisse]. In particular, the allegations of fraud by Bafin and the British Business Bank removing the British government guarantee on COVID-19 lending highlight the increased likelihood of substantially higher losses and other tail risk; and  *Credit Suisse Taking Steps: The hit parade continues. Credit Suisse has stated that the company’s Board is investigating its own ties with Greensill, replaced its asset management CEO, asset management will be segregated from international wealth management, and employee compensation could be subject to clawback.

*Greensill Tab Begins:Greensill Capital (Greensill) filed for insolvency in the United Kingdom after lawyers for had cited Greensill’s inability to repay a USD 140 mn bridge loan provided by Credit Suisse Group (CSGN.VX) [Credit Suisse]. In particular, the allegations of fraud by Bafin and the British Business Bank removing the British government guarantee on COVID-19 lending highlight the increased likelihood of substantially higher losses and other tail risk; and  *Credit Suisse Taking Steps: The hit parade continues. Credit Suisse has stated that the company’s Board is investigating its own ties with Greensill, replaced its asset management CEO, asset management will be segregated from international wealth management, and employee compensation could be subject to clawback. 

Credit Suisse Group – Greensill Fallout Continues

Switzerland

Credit Suisse Group AG operates as a wealth management firm. The Company specializes in investment banking and offers wealth management activities aiming to capitalize on both the large pool of wealth within mature markets, as well as the significant growth in wealth in Asia Pacific and other emerging markets. Credit Suisse Group serves customers worldwide.

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Credit Suisse Group (CSGN SW)

Credit Suisse: Where There’s Smoke, There’s a Capital Raise

CS needs as much as CHF8bn in common equity to bring its capital buffer in-line with peers. The Archegos affair adds fuel to risk management and...

Hank Calenti, CFA

Credit Suisse – Another Shoe Drops

CREDIT SUISSE GROUP: Greensill has filed for Chapter 11 bankruptcy protection for its US subsidiary in New York. The subsidiary sold Greensill...

Thomas J. Monaco

Bank Credit Weekly: Growth Concerns May Be Total Return Positive

A slower growth trajectory may reduce inflation expectations which could translate into lower yields and $ value. This could produce a longer...

Hank Calenti, CFA

US Banks and the SLR Situation: Overweight JPM Tier 1 Securities

JPM’s fortress foundation needs repair. It has the lowest SLR buffer, and its Tier 1 suffers from this. Leverage slimming and a deeper capital...

Hank Calenti, CFA

Credit Suisse Group – Greensill Fallout Continues

CREDIT SUISSE GROUP: The hits continue at CS. The Board is investigating ties with Greensill, replaced its AM CEO, AM will be segregated, and...

Thomas J. Monaco

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