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

China Merchants Bank H / Equity Bottom-Up

*Weak 4Q20 Bottom-Line: China Merchants Bank (3968.HK) [CMB] pre-announced a poor set of 4Q20 results. On March 19, 2020, the finals were disclosed and the results were even uglier than anticipated. While its true that net profit declined CNY 6.1 bn (22.7%) on a linked quarter basis to CNY 20.9 bn –despite having its tax rate decline 790 bp to 15.6% over the period, core operating results came in at just CNY 13.9 bn – declining CNY 9.3 bn or 40.0% linked quarter;  and *Best Retail Franchise Hitting Credit Wall: While CMB has the best retail franchise in mainland China, credit risk has substantially increased in 4Q20. More worrisome is the net new NPL increase of CNY 14.8 bn, representing an annualized increase in net new NPLs of 104.7%. Provided (and its not a stretch) that the net new NPL ratio trajectory holds, reserve cover of NPLs will drop to 213% - suggesting even the mighty are falling.

*Weak 4Q20 Bottom-Line: China Merchants Bank (3968.HK) [CMB] pre-announced a poor set of 4Q20 results. On March 19, 2020, the finals were disclosed and the results were even uglier than anticipated. While its true that net profit declined CNY 6.1 bn (22.7%) on a linked quarter basis to CNY 20.9 bn –despite having its tax rate decline 790 bp to 15.6% over the period, core operating results came in at just CNY 13.9 bn – declining CNY 9.3 bn or 40.0% linked quarter;  and *Best Retail Franchise Hitting Credit Wall: While CMB has the best retail franchise in mainland China, credit risk has substantially increased in 4Q20. More worrisome is the net new NPL increase of CNY 14.8 bn, representing an annualized increase in net new NPLs of 104.7%. Provided (and its not a stretch) that the net new NPL ratio trajectory holds, reserve cover of NPLs will drop to 213% - suggesting even the mighty are falling. 

China Merchants Bank – Pulling On All Levers

Financials Credit Analyst

Hank Calenti, CFA

CreditContinuum

Credit

As the fallout from the Greensill affair continues, <a href="https://www.smartkarma.com/entities/credit-suisse-group-ag-f4b24f0c-c294-40b3-b491-759f0cb277e9" target="_blank" data-smartkarma-citation="entities:27915:1" rel="noopener">Credit Suisse Group (CSGN SW)</a> acknowledged 3 items regarding this situation:First, the Pillar 2 capital buffer requirement may be impacted by the Greensill affair. This may have long lasting negative implications for the valuation of CS contingent capital Tier 1 bonds.Second, certain notes underlying the Supply Chain Finance (SCF) funds will not be repaid when they fall due. The nonpayment creates considerable uncertainty regarding the valuation of a significant part of the remaining US$6.9bn. of assets in the SCF funds.Third, certain investors have already threatened litigation and, CS also stated that it “might also suffer reputational harm associated with these matters that might cause client departures or loss of assets under management.” This is what we warned when the Greensill news broke two weeks ago. Please see <a href="https://www.smartkarma.com/insights/credit-suisse-greensill-sows-reputation-risks-underweight-cs-bonds" target="_blank" data-smartkarma-citation="insights:48839" rel="noopener">Credit Suisse: Greensill Sows Reputation Risks, Underweight CS Bonds</a> for more details. In the intervening time-period, CS equity and credit have materially underperformed their respective indexes.At this point, investors’ main concern should be the amount or level of additional Pillar 2 capital which the firm may need to retain. The is not currently factored into CS’ debt or equity valuations.To its credit, the bank is taking prompt corrective action in restructuring the leadership, transparency, and compensation of the Asset Management division. However, we remain skeptical with whether the worst is past in this affair. Alternative assets require greater oversight as they are harder to manage and value. Combining risk management and compliance functions across CS stills seems like a mistake when it comes to asset management. However, the segmental separation of the Asset Management division may be a first step to unloading the relatively undersized entity. Distancing the unit from the Wealth Management operations may limit client departures.We continue to believe that the pricing of Credit Suisse bonds does not fully reflect the risks, complexity, and low capitalization of the firms’ underlying business model; nor does it capture potential franchise impairment from increasing reputation risk. The recent suspension of redemptions from certain CS funds is at best an embarrassment and at worst a signal that controls remain in need of considerable attention. This is unfortunate, as CS is highly geared to the business cycle and could outperform peers, if it can get its house in order. However, CS’s long-dated Additional Tier 1 bonds already trade tight relative to the challenges facing the firm. Please see: <a href="https://www.smartkarma.com/insights/credit-suisse-perfection-priced-into-long-dated-at1" target="_blank" data-smartkarma-citation="insights:48461" rel="noopener">Credit Suisse – Perfection Priced into Long-Dated AT1</a> for more details.   We suspect that credit may continue to follow equity and underperform over the near term. Longer-term, Pillar 2 considerations suggest that an even lower capital buffer as a cushion for AT1 investors, unless hidden capital is realized, or shareholders receive less in returns. Taken together, we remain comfortable with our recommendation that investors underweight Credit Suisse.

As the fallout from the Greensill affair continues, Credit Suisse Group (CSGN SW) acknowledged 3 items regarding this situation:First, the Pillar 2 capital buffer requirement may be impacted by the Greensill affair. This may have long lasting negative implications for the valuation of CS contingent capital Tier 1 bonds.Second, certain notes underlying the Supply Chain Finance (SCF) funds will not be repaid when they fall due. The nonpayment creates considerable uncertainty regarding the valuation of a significant part of the remaining US$6.9bn. of assets in the SCF funds.Third, certain investors have already threatened litigation and, CS also stated that it “might also suffer reputational harm associated with these matters that might cause client departures or loss of assets under management.” This is what we warned when the Greensill news broke two weeks ago. Please see Credit Suisse: Greensill Sows Reputation Risks, Underweight CS Bonds for more details. In the intervening time-period, CS equity and credit have materially underperformed their respective indexes.At this point, investors’ main concern should be the amount or level of additional Pillar 2 capital which the firm may need to retain. The is not currently factored into CS’ debt or equity valuations.To its credit, the bank is taking prompt corrective action in restructuring the leadership, transparency, and compensation of the Asset Management division. However, we remain skeptical with whether the worst is past in this affair. Alternative assets require greater oversight as they are harder to manage and value. Combining risk management and compliance functions across CS stills seems like a mistake when it comes to asset management. However, the segmental separation of the Asset Management division may be a first step to unloading the relatively undersized entity. Distancing the unit from the Wealth Management operations may limit client departures.We continue to believe that the pricing of Credit Suisse bonds does not fully reflect the risks, complexity, and low capitalization of the firms’ underlying business model; nor does it capture potential franchise impairment from increasing reputation risk. The recent suspension of redemptions from certain CS funds is at best an embarrassment and at worst a signal that controls remain in need of considerable attention. This is unfortunate, as CS is highly geared to the business cycle and could outperform peers, if it can get its house in order. However, CS’s long-dated Additional Tier 1 bonds already trade tight relative to the challenges facing the firm. Please see: Credit Suisse – Perfection Priced into Long-Dated AT1 for more details.   We suspect that credit may continue to follow equity and underperform over the near term. Longer-term, Pillar 2 considerations suggest that an even lower capital buffer as a cushion for AT1 investors, unless hidden capital is realized, or shareholders receive less in returns. Taken together, we remain comfortable with our recommendation that investors underweight Credit Suisse. 

Credit Suisse: Greensill's Capital Implications Outweigh Asset Management Corrective Action

<a href="https://www.smartkarma.com/entities/hsbc-holdings-plc-a723bd63-0890-486f-aaa0-3bb9ad2b95ce" target="_blank" data-smartkarma-citation="entities:21976:1" rel="noopener">HSBC Holdings' (HSBA LN)</a> A2 Senior Unsecured and A3 Tier 2 ratings are on review for downgrade by Moody’s Investors Service. The Additional Tier 1 (AT1) bonds are NOT on review for downgrade. We see this as more a case of Moody’s adjusting its ratings to the market, rather than a market making event. However, negative headline risk could nudge AT1 and Tier 2 bond prices lower. We would buy these dips.We believe the agency is mistaken to pre-judge the recent strategic update. Even if HSBC’s profitability suffers, short-term, the firm holds excess capital which it intends to invest in its future, rather than simply return to shareholders. Furthermore, Moody’s is clearly comfortable with HSBC’s lower capital target or it would also put the AT1 rating on review. Placing the Tier 2 rating on review for downgrade while stating that HSBC has a sufficient capital buffer to support its AT1 rating is a non-sequitur. Moody’s Tier 2 ratings are mechanically, rather than fundamentally, driven.Once a credit is placed on review for a downgrade, the likelihood of it occurring is greater than 50%. Irrespective, we are not convinced that this deserves to be reflected in the value of HSBC’s Tier 2 notes as this should be driven by the buffer of capital over the Point of Non-Viability. This buffer is enormous at HSBC. In fact, it is higher than that of the Singapore-based banks alongside of which HSBC’s Tier 2 bonds trade. Moody’s review for downgrade may create a buying opportunity in the Tier 2 space.

HSBC Holdings' (HSBA LN) A2 Senior Unsecured and A3 Tier 2 ratings are on review for downgrade by Moody’s Investors Service. The Additional Tier 1 (AT1) bonds are NOT on review for downgrade. We see this as more a case of Moody’s adjusting its ratings to the market, rather than a market making event. However, negative headline risk could nudge AT1 and Tier 2 bond prices lower. We would buy these dips.We believe the agency is mistaken to pre-judge the recent strategic update. Even if HSBC’s profitability suffers, short-term, the firm holds excess capital which it intends to invest in its future, rather than simply return to shareholders. Furthermore, Moody’s is clearly comfortable with HSBC’s lower capital target or it would also put the AT1 rating on review. Placing the Tier 2 rating on review for downgrade while stating that HSBC has a sufficient capital buffer to support its AT1 rating is a non-sequitur. Moody’s Tier 2 ratings are mechanically, rather than fundamentally, driven.Once a credit is placed on review for a downgrade, the likelihood of it occurring is greater than 50%. Irrespective, we are not convinced that this deserves to be reflected in the value of HSBC’s Tier 2 notes as this should be driven by the buffer of capital over the Point of Non-Viability. This buffer is enormous at HSBC. In fact, it is higher than that of the Singapore-based banks alongside of which HSBC’s Tier 2 bonds trade. Moody’s review for downgrade may create a buying opportunity in the Tier 2 space.

HSBC: On Review for Downgrade, Buy the Dips

Stronger than expected US employment data combined with uncertainty surrounding the Fed’s next steps to drive broader credit markets wider by weekend, although financials remained better bid. Taperless tantrums may be repeated over the near term but financials may be less impacted.While US CCC-rated bonds and Asia High Yield sold-off, almost all European contingent capital and Asia High Yield bonds tightened in credit spread terms as investors remained anchored to banks as an economic recovery play. Investors grabbed longer duration Additional Tier 1 (AT1) bonds as the week progressed, on economic strength expectations, while lower duration Senior Unsecured bonds outperformed on rising interest rate expectations. Friday’s non-farm report generated concerns on European growth in a rising rate environment. Queue central bank assurances that they will respond to rising rates over the next few weeks.Despite higher spreads available in more moderate duration AT1 notes, Europe's outperformers were almost exclusively long duration bonds. This outperformance is a very bullish signal. However, we are not convinced that this should apply to each of these institutions.  Please see <a href="https://www.smartkarma.com/insights/credit-suisse-greensill-sows-reputation-risks-underweight-cs-bonds" target="_blank" data-smartkarma-citation="insights:48839" rel="noopener">Credit Suisse: Greensill Sows Reputation Risks, Underweight CS Bonds</a> for further details.Financials remain the sweet spot in Asia credit. Levered to the economy and rising rates, this is the place to be at this point in the market cycle.  Performance attributes varied amongst the various bank credit classes in Asia. Risk-on sentiment drove higher risk AT1 and less subordinated Tier 2 bonds tighter. Meanwhile duration concerns drove investors to target higher spreads per unit of duration in BBB-rated and High Yield Senior Unsecured notes. Taken together, this performance outcome is likely evidence of the melt-up in spreads that we anticipated several weeks ago. Please see <a href="https://www.smartkarma.com/insights/bank-credit-strategy-melt-up-before-meltdown-where-to-position" target="_blank" data-smartkarma-citation="insights:48133" rel="noopener">Bank Credit Strategy: Melt-Up Before Meltdown, Where to Position</a> for more details.Admittedly, however, we are surprised by the credit strength of Asia-headquartered financials during the global rates rout. We attribute this to two items. First, China is further along the Covid-19 curve in recovery and will clearly benefit as the rest of the world catches-up. Second, financials are a leverage play on the global recovery. Taken together, Asia financials overall are well placed to continue outperforming other markets over the near term.Market Outlook: The Fed will likely Twist before it Tapers, but the timing of both remain uncertain as real long term interest rates remain negative. In the interim, global treasury markets may remain unsettled. The US economy may run very hot before we see a change in Fed policy regarding short-term interest rates and the US dollar should remain stronger than analysts forecasted at year-end. Broadly, this is not Emerging Market IEM) friendly; however, a strong US economic rebound should benefit EM and European financials. Short duration in investment grade financials combined with high credit spreads in High Yield financials and more subordinated debt may remain the way forward.

Stronger than expected US employment data combined with uncertainty surrounding the Fed’s next steps to drive broader credit markets wider by weekend, although financials remained better bid. Taperless tantrums may be repeated over the near term but financials may be less impacted.While US CCC-rated bonds and Asia High Yield sold-off, almost all European contingent capital and Asia High Yield bonds tightened in credit spread terms as investors remained anchored to banks as an economic recovery play. Investors grabbed longer duration Additional Tier 1 (AT1) bonds as the week progressed, on economic strength expectations, while lower duration Senior Unsecured bonds outperformed on rising interest rate expectations. Friday’s non-farm report generated concerns on European growth in a rising rate environment. Queue central bank assurances that they will respond to rising rates over the next few weeks.Despite higher spreads available in more moderate duration AT1 notes, Europe's outperformers were almost exclusively long duration bonds. This outperformance is a very bullish signal. However, we are not convinced that this should apply to each of these institutions.  Please see Credit Suisse: Greensill Sows Reputation Risks, Underweight CS Bonds for further details.Financials remain the sweet spot in Asia credit. Levered to the economy and rising rates, this is the place to be at this point in the market cycle.  Performance attributes varied amongst the various bank credit classes in Asia. Risk-on sentiment drove higher risk AT1 and less subordinated Tier 2 bonds tighter. Meanwhile duration concerns drove investors to target higher spreads per unit of duration in BBB-rated and High Yield Senior Unsecured notes. Taken together, this performance outcome is likely evidence of the melt-up in spreads that we anticipated several weeks ago. Please see Bank Credit Strategy: Melt-Up Before Meltdown, Where to Position for more details.Admittedly, however, we are surprised by the credit strength of Asia-headquartered financials during the global rates rout. We attribute this to two items. First, China is further along the Covid-19 curve in recovery and will clearly benefit as the rest of the world catches-up. Second, financials are a leverage play on the global recovery. Taken together, Asia financials overall are well placed to continue outperforming other markets over the near term.Market Outlook: The Fed will likely Twist before it Tapers, but the timing of both remain uncertain as real long term interest rates remain negative. In the interim, global treasury markets may remain unsettled. The US economy may run very hot before we see a change in Fed policy regarding short-term interest rates and the US dollar should remain stronger than analysts forecasted at year-end. Broadly, this is not Emerging Market IEM) friendly; however, a strong US economic rebound should benefit EM and European financials. Short duration in investment grade financials combined with high credit spreads in High Yield financials and more subordinated debt may remain the way forward.

Bank Credit Weekly: One Size Does Not Fit All

<a href="https://www.smartkarma.com/entities/standard-chartered-plc" target="_blank" data-smartkarma-citation="entities:193:1" rel="noopener">Standard Chartered's (StanLn)</a> decision to restart its share-buyback program while simultaneously aiming to achieve a 10% Return on Tangible Equity (ROTE) is not creditor friendly. The share-buyback is also inconsistent with trying to grow revenues at a cumulative annual growth rate of 5% to 7% over the medium term, as capital constraints may mean missing revenue opportunities. This is at complete odds with <a href="https://www.smartkarma.com/entities/hsbc-holdings-plc-a723bd63-0890-486f-aaa0-3bb9ad2b95ce" target="_blank" data-smartkarma-citation="entities:21976:1" rel="noopener">HSBC Holdings' (HSBA LN)</a> wise decision to forgo buybacks through this year. Taken together with management’s plans toward achieving a higher ROTE, this is not credit positive. Pre-Covid-19, Standard Chartered’s problem was excess capacity in a fragmented distribution network. Covid-19 accentuated other weaknesses, including oversized net interest income reliance as well as bancassurance growth sensitivity to border crossing constraints. Underpinned by cost containment difficulties, StanLn is lost at sea, hoping for a return to higher interest rates, open borders, and greater globalization. We are in a world comprised of the exact opposite these days.Within this insight, we review StanLn’s 2020 annual and Q4 results as well as assess the firm’s plans to achieve a higher ROTE over the medium term. Our conclusion is that it is difficult to get excited about Standard Chartered’s US$-denominated Additional Tier 1 (AT1) bonds. In our view, most of these notes trade right where they belong, if not too dear, relative to other banks. If we had to buy a StanLn bond, we would favor the Singapore-dollar denominated AT1 note, despite the results and targets going forward.

Standard Chartered's (StanLn) decision to restart its share-buyback program while simultaneously aiming to achieve a 10% Return on Tangible Equity (ROTE) is not creditor friendly. The share-buyback is also inconsistent with trying to grow revenues at a cumulative annual growth rate of 5% to 7% over the medium term, as capital constraints may mean missing revenue opportunities. This is at complete odds with HSBC Holdings' (HSBA LN) wise decision to forgo buybacks through this year. Taken together with management’s plans toward achieving a higher ROTE, this is not credit positive. Pre-Covid-19, Standard Chartered’s problem was excess capacity in a fragmented distribution network. Covid-19 accentuated other weaknesses, including oversized net interest income reliance as well as bancassurance growth sensitivity to border crossing constraints. Underpinned by cost containment difficulties, StanLn is lost at sea, hoping for a return to higher interest rates, open borders, and greater globalization. We are in a world comprised of the exact opposite these days.Within this insight, we review StanLn’s 2020 annual and Q4 results as well as assess the firm’s plans to achieve a higher ROTE over the medium term. Our conclusion is that it is difficult to get excited about Standard Chartered’s US$-denominated Additional Tier 1 (AT1) bonds. In our view, most of these notes trade right where they belong, if not too dear, relative to other banks. If we had to buy a StanLn bond, we would favor the Singapore-dollar denominated AT1 note, despite the results and targets going forward.

Standard Chartered Results: Lost at Sea with No Credit Catalyst

United Kingdom

HSBC Holdings plc is the holding company for the HSBC Group. The Company provides a variety of international banking and financial services, including retail and corporate banking, trade, trusteeship, securities, custody, capital markets, treasury, private and investment banking, and insurance. HSBC Holdings operates worldwide.

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HSBC Holdings (HSBC US)

China Merchants Bank – Pulling On All Levers

CHINA MERCHANTS BANK: CMB's core operating results came in at just CNY 13.9 bn – declining 40.0% linked quarter. Negative operating jaws, and net...

Thomas J. Monaco

Credit Suisse: Greensill's Capital Implications Outweigh Asset Management Corrective Action

Additional Pillar 2 capital requirements are not currently factored into valuations. CS bonds do not reflect the risks, complexity, and low...

Hank Calenti, CFA

HSBC: On Review for Downgrade, Buy the Dips

The capital buffer over the Point of Non-Viability matters most to Tier 2 investors. Moody’s Tier 2 ratings are mechanically, rather than...

Hank Calenti, CFA

Bank Credit Weekly: One Size Does Not Fit All

Performance attributes varied amongst bank credit classes. Short duration in IG financials combined with high credit spreads in HY and more...

Hank Calenti, CFA

Standard Chartered Results: Lost at Sea with No Credit Catalyst

StanLn’s need to focus on the E in ROTE is not creditor friendly. Recent results and exposures also do not offer comfort. It is difficult to get...

Hank Calenti, CFA

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