(The author is a Reuters Breakingviews columnist. The opinions
expressed are his own.)

By Dominic Elliott

LONDON, May 17 (Reuters Breakingviews) – Widening the
European Union bonus cap to include almost all the region’s
bankers could end up throttling a recovery. A new proposal from
the European Banking Authority (EBA) suggests changing the
definition of “material risk taker” to include any banker whose
total remuneration comes to more than 500,000 euros. Before, the
definition looked likely to rely on the interpretation of
national regulators.

On the face of it, the EBA’s enlarged definition levels the
playing field. Take Deutsche Bank (DBKGn.DE: Quote, Profile, Research) and Barclays
(BARC.L: Quote, Profile, Research). Although their business models are similar, last year
Barclays had just 393 risk takers under the old definition,
versus 1,215 at Deutsche. Under the EBA’s new proposal, the
number of bankers affected at the UK institution would increase
to 1,138.

It’s unlikely that the new bonus cap will lead many more
employees to jump ship to Wall Street competitors which are not
restricted. Most of the additional people captured by the new
rule will not have earned so much that the cap will cut deeply
into their pay.

Yet the EBA’s ruse would still put managers of European
banks in a bind. Investment banking is an inherently cyclical
business which requires a degree of flexibility over costs.
Large variable bonuses can be the best way to deal with the
see-saw effect, and the lumpiness of revenue from originating
capital markets business and takeover deals.

Most bank bosses would agree that pay got out of hand during
the crisis. But they also point out that the market has already
started to self-correct. Banks have brought in provisions to
claw back bonuses several years down the line. That should
prevent employees from taking risks without any downside, as
they did in the run-up to the crisis.

Of course, without an all-encompassing bonus cap there is
danger that compensation could spiral out of control once more.
But banks are still too big and too fragile. A wider bonus net
will only make them more so.

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CONTEXT NEWS

– The European Banking Authority has approved draft
regulation that would widen the scope of the European Union’s
proposed cap on bonuses to include any banker whose total
remuneration is greater than 500,000 euros, financial services
firm PwC said in a statement on May 17. PwC added that as many
as 10 times the number of staff could be affected at some
investment banks.

– Previously, there was no common definition of who had to
comply with the remuneration curbs passed by the European
parliament, although most bankers and compensation consultants
assumed it would apply to so-called “material risk takers”.

– Reuters: EU bonus cap could hit 10 times as many London
bankers [ID:nL6N0DY2N9]

– For previous columns by the author, Reuters customers can
click on [ELLIOTT/]

(Editing by Edward Hadas and Sarah Bailey)

((dominic.elliott@thomsonreuters.com))

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By Dominic Elliott

The author is a Reuters Breakingviews columnist. The opinions expressed are his own

The new-look UBS  is starting to deliver. The first full quarter of the strategy announced on Oct. 29 has broadly answered the Swiss bank’s critics. UBS shone in trading and capital markets financing, returning to its traditional strength in equities. Investment bank stability helped wealth management business too.

UBS’s Tier 1 Basel III capital ratio of 10.1 percent conveys more solidity than most rivals. Wealthy individuals have noticed. Having flatlined for quarter after quarter, the growth rate for net new money ticked into double digits in Asia, Latin America, Africa and Eastern Europe. The biggest rise in growth came from ultra high-net worth investors.

The investment bank’s back-to-basics strategy is also showing early signs of promise. Pretax profit in the division doubled to just shy of 1 billion Swiss francs from a year ago driven largely by equity trading and financing. UBS also held up well against its peers in foreign exchange and rates – the main areas of fixed income trading the bank has stuck with amid a general retreat from that business. 

The snag is that this is pretty much priced in. UBS shares are trading at 1.2 times book value after a 37 percent rise in shares since the end of October. While its strategy is looking increasingly convincing, UBS has yet to prove it can make the kind of returns to justify that.

The revamp is far from done, and won’t proceed in a straight line. A 5 billion franc rise in investment banking risk-weighted assets, to 69 billion francs, is still within the bank’s own self-imposed limit of 70 billion francs. But any further rises would raise questions about its commitment to dialling down risk. There is still the potential for losses from the winding down of UBS’s sizable non-core portfolios.

Cost pressures in investment banking also persist – business head Andrea Orcel has had to open the cheque book to secure top talent after UBS’s recent troubled history. In time, they might turn the tide in M&A, where revenue was down 33 percent to 114 million Swiss francs year on year. The bank’s U.S. advisory business needs particular attention, after defections over many years to large competitors and boutiques like Centerview, Jefferies and Moelis.

UBS is moving on from the days of multi-billion dollar write downs. Investors – and potential recruits – may see a virtuous circle starting to form. But management will need to post a string of decent quarterly results to give the shares another leg up.

The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

Two of Europe’s biggest investment banking firms have defied fears they would fall behind Wall Street peers in the first quarter. Credit Suisse and Barclays succeeded in maintaining revenue in investment banking year-on-year, against an average drop of 7 percent among U.S. peers. Costs fell too. Given their recent history, the decision by both banks to maintain sizeable investment banking operations is controversial. But the numbers provide some justification.

Ironically, both banks benefited from the strength of their U.S. franchises – a more pronounced advantage for Barclays and Credit Suisse than other European banks. Solid volumes in credit and securitised products helped both firms offset weakness in other areas of fixed-income trading, such as rates. Diversity, across products and geographies, helps.

Barclays still lags its Swiss rival in adapting investment banking to the post-crisis world. A 500 million pound charge that dragged down Barclays’ group profit will be repeated later this year. But Credit Suisse’s first quarter shows it is possible to reshape and resize investment banking and still make a quarterly return on equity of 23 percent under Basel III. While the start of the year is traditionally the most lucrative period, Credit Suisse’s annual target of 15 percent ROE in investment banking is looking realistic.

Why, then, have the shares of Credit Suisse performed almost exactly in line with UBS since the latter revealed bold plans to exit investment banking last October? Because it takes years to win credibility for achieving the right risk-reward balance in investment banking. In the meantime, wealth management will be the stronger share-price driver. And in the first quarter, private bank and wealth management pre-tax margins fell to 26.7 percent quarter-on-quarter, reflecting low interest rates globally and slower progress on costs.

Barclays needs its investment bank to emulate Credit Suisse’s returns – not least as the rest of the UK group is dominated by low-growth, low-margin retail banking. A 19 percent rise in equities trading revenue looks positive, but Barclays’ near-miss with a mishandled block trade in Dutch telecoms company Ziggo could have ruined the result.

Restructuring is paying off at Credit Suisse. If Barclays were to pull off a similar trick, the UK bank’s shares should start trading in line with its book value like Credit Suisse’s, rather than 30 percent below as they do currently.

The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

The European Union’s top financial regulator seems out of touch on banking reform. His peers want banks to keep more capital, but Michel Barnier says the United States should give European banks a break.

U.S. regulators are right in principle. In general, banks need more capital, to remove their implicit government subsidy and to avoid financial crises. And separately capitalised American subsidiaries of Foreign Banking Organisations (FBOs) will be both safer and easier to regulate. The net cost to American society, despite more potentially expensive corporate financing, would probably be somewhere between negligible and zero.

Barnier, the EU’s Internal Market Commissioner, may be thinking more like a trade representative than a regulator. After all, European banks have most to lose from the rules. Deutsche Bank, with 37 percent of group assets in its U.S. subsidiary, is most exposed to the draft FBO rules, according to research by Morgan Stanley.

Credit Suisse has a separately capitalised U.S. entity, but most other big European banks will have to scramble. It can be done. Deutsche’s chief financial officer Stefan Krause has contemplated raising contingent capital to meet future U.S. capital needs. Transferring group capital via a debt-for-equity swap is another option.

Barnier can argue that the proposed tough FBO rules – the consultation period runs until April 30 – would build too thick a margin of safety. Liquidity requirements would force foreign banks to expand unnecessarily their portfolios of low-risk assets. He can also point out that while the UK may yet push for something approaching the FBO prescription, U.S. banks operating in the euro zone are judged on their worldwide capital.

Such arguments depend on Barnier’s vision of national regulators as global team players. In such a happy world, the multinational team would calmly and quickly agree to apportion the pain when a globally systemic institution failed. But history suggests that’s naïve. Lehman Brothers’ collapse left U.S. authorities unable to access funds held in London. The more recent experience of Cyprus showed Europe struggling to deal with banks that posed no global risk.

Barnier may genuinely fear American protectionism, but he sounds like he is arguing for imprudence.

(The author is a Reuters Breakingviews columnist. The opinions
expressed are his own)

By Dominic Elliott

LONDON, April 19 (Reuters Breakingviews) – Forget fancy
financial models derived from quantum physics. The solution to
low returns in banking may lie in the car industry of 30 years
ago, in a Toyota-style production-line revolution replacing
people with machines.

The idea is being championed by Barclays’ (BARC.L: Quote, Profile, Research) new chief
executive Antony Jenkins. He has held up the Japanese car
industry as a model for tackling poor productivity in financial
services, and reportedly told investors that automated processes
could eliminate 30 percent of Barclays’ workforce – or 40,000
jobs – over the next 10 years.

If this is so easy, why hasn’t it been done before? Mainly
because the banking industry could afford to be lazy before the
crisis struck. Revenue growth outstripped rising costs. But the
few European banks that have thought like Toyota (7203.T: Quote, Profile, Research) have
the results to show for it. Systems-savvy Swedbank (SWEDa.ST: Quote, Profile, Research)
and Handelsbanken (SHBa.ST: Quote, Profile, Research) have pre-tax operating margins of
above 50 percent. Apply that to Barclays’ UK retail bank and
pre-tax profit would more than double – the highest operating
margin the business has enjoyed in the last three years is 22
percent.

In investment banking, new rules are already forcing human
capital out of the industry. Highly structured trades that
require human brainpower to arrange and process are being
regulated away. A large part of the swaps market could go from
being traded over-the-counter to on-exchange at lower cost,
according to an investor survey conducted by Morgan Stanley.

But retail banking is where the biggest gains may be
possible. Executives say that many tortuous back-office
processes done by people could be mechanised, and done faster,
more reliably and cheaply. There are parallels with telecoms as
well as cars. That industry saw costs and people cut by 30 to 50
percent in the 1990s, according to McKinsey.

The difficulty is that a robot revolution would have a big
impact on wider society. An industry bailed out by the taxpayer
would be withdrawing generally low-skilled, back-office jobs
from the economy. Remaining staff will tend to be higher
earners, so average pay in banks would be seen to rise. Banks
would end up looking even more self-serving and less supportive
of wider society. With Jenkins also advocating that banks should
have a positive social impact, he may learn that he can’t have
it all.

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CONTEXT NEWS

– Barclays Chief Executive Antony Jenkins said on March 19
that it was important to think “like an industrial process
engineer” in attempts to save costs, citing the example of a
leading carmaker in Japan “reducing the price per car by 10
percent and general expenses by 20 percent while improving
quality through simplification and automating manual processes”,
according to the text of a speech he gave to a Morgan Stanley
investor conference.

– Jenkins told shareholders that he could imagine a world in
which the bank employed fewer than 100,000 people in a decade’s
time, down from 140,000 currently, Sky News reported on March 7.
- For previous columns by the author, Reuters customers can
click on [ELLIOTT/]

(Editing by Chris Hughes and David Evans)

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The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

Europe’s Robin Hood tax needs a temporary carve-out for the funding of banks through repurchase agreements, known as repo financing. Over the longer term, it is a good idea for lenders to reduce the instant gratification that short-term wholesale funding provides. But with sovereign debt concerns lingering, it is too early to pull the rug out from under them.

The financial transaction tax in its current version may snuff out much of the European repo market – a key source of banks’ short-term funding. A study commissioned by the International Capital Markets Association, a lobby group, reckons the tax would shrink Europe’s repo market by two-thirds and make maturities of less than a year uneconomic. The European Commission had anticipated the industry’s gripe: it believes exemptions for secured loans and transactions with central banks will keep credit lines open.

Both these alternatives to repo financing have limitations, however. A secured loan provides creditors with less legal protection in the event of default than a repo. Lenders of last resort, meanwhile, are already providing too much financing to the banking sector. And without a private repo market to lean on, central banks could find it hard to drain that excess liquidity.

Besides, repo is a low-margin business for banks that they often provide for free alongside other services. ICMA provides a value for outstanding European repo contracts in its six-month surveys (5.6 billion euros as of December), but no figures for annual turnover or profit. This lack of transparency led Europe’s tax authorities to overstate the amount the tax might raise by hitting repo, while underestimating its potential damage to the market.

The repo exception should be just that – an exception. Else the transaction tax, which only 11 countries say they will implement, risks becoming a joke. Exempting all fixed income market-makers, as the ICMA study also advocates, would reinforce distorting tax advantages for debt instruments. It would also unduly benefit the investment banks that the tax is intended to hit.

There’s no doubt that European lenders need to cut their reliance on short-term financing: the International Monetary Fund warned last year that the region’s dependence on it raises the risk of future bank runs. But the stringent capital controls recently imposed in Cyprus are a reminder of the fragility of some of the region’s banks. For that reason primarily, the repo market deserves a stay of execution.

The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

The most lasting inheritance of the 2008 financial crisis may be a change in the purpose of central banks. From the 1980s until 2007, most believed that monetary authorities should primarily use a policy interest rate to combat inflation. Interventions in the markets or in the financial system were outside the remit, or so the orthodox view went. Neil Irwin’s “The Alchemists” shows how that thinking has been turned on its head.

Central banks now have vast power. The European Central Bank, led by Jean-Claude Trichet, flouted the spirit of the Maastricht Treaty by buying bonds of euro zone states; Mervyn King’s independent Bank of England became part of the political debate as it engaged in monetary easing on a vast scale; and Ben Bernanke’s Federal Reserve has experimented with even more radical and creative ways to fix the U.S. economy. Irwin, a Washington Post journalist, underscores just how revolutionary those moves were.

The book breezes through central banking’s troubled history, starting with the first central banker, Johan Palmstruch, a jailed debtor who assumed a new identity. He plunged Sweden into an economic depression and died a much-reviled man. Reichsbank President Rudolf van Haverstein’s unfortunate penchant for monetising German debt during World War One was another low point.

Irwin really provides spice, however, with a blow-by-blow account of the financial crisis and its aftermath. There’s a fine level of detail: Mervyn King dog-sledding at a central bankers’ convention in the remote Canadian territory of Iqaluit, for example. Central banking seems sexy after all, even if the claim that French President Nicolas Sarkozy’s walk at Deauville with German Chancellor Angela Merkel was the “most consequential stroll on a beach in history” is exaggerated.

Still, it’s an achievement to produce a page-turner that also explains the various ideologies of central banking. In essence, central banking has been a game of trial and error. And the seat-of-the-pants decision-making in the euro zone involved many strange manoeuvres. Bundesbank head Axel Weber reneged on his support of Trichet’s bond-buying plan, placing the euro zone in even greater peril. Meanwhile, Dominique Strauss-Kahn, head of the International Monetary Fund, was promising bailout money before he was authorised to do so.

Of the book’s three main protagonists – Trichet, Bernanke and King – only the U.S. Fed chairman comes out remotely well. His openness to new ideas is contrasted with King’s stubbornness and Trichet’s self-importance.

The author could have done more to consider the negative effects of flooding the global economy with cheap money. The concept of eurobonds – an important possible way to fix European finance – is also dismissed without comment. But China’s lack of central banking independence is highlighted as an important counterweight to the Western approach: the government’s authoritarian control of monetary policy helped the Chinese economy snap back with barely a blip post-crisis.

Irwin has produced a book that is highly readable and a riposte to Robert Pringle’s “The Money Trap”, which argues that the financial system is dangerously fragmented. For Irwin, the crisis has pushed central bankers to find solutions in concert. The alchemists may not have produced gold, but they provided enough monetary glue to hold societies together.

The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

John Malone’s latest swoop in the cable sector is true to form. The cable tycoon’s Liberty Global was sitting on a paper profit of over 40 million euros hours after buying a 12.7 pct stake in Dutch cable company Ziggo from Barclays on March 28. Malone has shrewdly exploited a forced seller, after Barclays was lumbered with the millions of Ziggo shares it failed to sell for the company’s private-equity owners days earlier. What’s more, he has plenty of experience in using blocking stakes as a takeover strategy.

Barclays has suffered unwelcome publicity from the episode but it will still be pleased with the outcome. The bank’s bungled share sale was a reminder of how risky it is to sell big blocks of stock for clients and commit to achieving a set price. Not that a reminder was needed. Placings in German satellite operator ProSieben, Spanish travel software group Amadeus and French voucher company Edenred all left banks saddled with unwanted stakes.

Barclays’ Ziggo stake dwarfed these: it was equivalent to about 1.5 percent of the UK bank’s Basel III core capital. The sale to Malone should shake regulators off its back.

Furthermore, the 25 euros per share paid – financed by existing Liberty funds and a loan from another bank – is only a 5 euro cent discount to what the UK bank paid for the block on March 18. Factor in fees and a hedge and Barclays may have even made money.

Ziggo shareholders should have mixed feelings. Malone’s stake is a deterrent to a bid for the company, and could thereby deprive them of a tasty takeover premium. True, Malone was the natural bidder anyway. But it’s not clear that even a low-ball takeover offer from him could come any time soon. Liberty has yet to digest its $20 billion takeover of the UK’s Virgin Media.

Further out, Malone is in pole position to snap up the remaining 17.1 percent combined stake held by buyout shops Warburg Pincus and Cinven. There may be valuable synergies from mashing Ziggo into UPC, another Dutch cable company he owns. But if he fails, he will still wield influence. The chief executive of Belgium’s Telenet – in which Malone also took a big stake – resisted Liberty’s overtures. Not long afterward, he was replaced – with a former Liberty group executive.

Andrea Orcel’s signing-on package shows the scale of the pay pickle facing banks. UBS stumped up $26 million to prise its investment-bank head from Bank of America Merrill Lynch last year, making a mockery of so-called retention packages designed to stop employees jumping ship. True, Orcel received no new cash or shares for joining his Swiss rival: the award simply replaces three years’ worth of pay he forfeited for leaving BAML. And the award can still be clawed back. But it shows how aggressive behaviour by just one bank can reinforce the industry’s pay problem.

The public relations impact is terrible: here is an accident-prone bank paying up to entice an outside executive who advised on the doomed carve-up of ABN Amro. Just a few months earlier, UBS had suffered a $2.3 billion rogue-trading loss. Later in 2012, Libor settlements whacked the bank for a further $1.5 billion in fines.

But UBS’s action also shows the pointlessness of mammoth retention awards. BAML’s retainer simply didn’t work. As long as there is always one bank out there willing to bid high, existing pay structures will be hard to change.

UBS has come up with some interesting and welcome ways to reform pay. Executives will from now on be entitled to a bonus pool worth a maximum 2.5 percent of adjusted pre-tax profit. Employees will be paid in contingent capital, aligning stakeholder interests. And average deferral periods for bonuses are rising significantly for top earners.

Still, UBS is also trying to rebuild its franchise – and with a relatively strong capital position it doubtless feels it can and indeed should pay what it takes to stay in the game. It has already unveiled a big shrinkage plan. UBS needs to excel in the investment banking businesses it is keeping.

Swiss citizens have granted shareholders binding votes on pay. The European Union is restricting variable pay to a maximum of two-and-a-half times base salaries. Banks are slowly reducing compensation to revenue ratios. But the trend towards longer deferral periods means paying people to move firms will be more expensive. Orcel-style buyouts will persist.

The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

Two big equity deals in 24 hours have made a rebound in Europe’s new-issues market look less of a pipedream. Tuesday’s placings in landlord British Land and wealth manager St. James’s Place suggest that those with equity to sell are ready to push the button.

The disposal of 520 million pounds’ worth of St. James’s Place shares held by lead investor Lloyds Banking Group required delicate handling. The 20 percent stake was equivalent to 200 days of trading in what is a relatively illiquid stock. To get the deal away smoothly, bookrunner Bank of America Merrill Lynch sold a quarter of the deal to anchor investors. That helped secure a discount of only 5 percent to Monday’s closing price. The transaction will boost Lloyds’ core capital ratio by 20 basis points.

British Land wants to rake in 500 million pounds selling new shares in itself, having just raised 472 million pounds by offloading Ropemaker Place, the London offices of Australia’s Macquarie Group and Japan’s Bank of Toyko-Mitsubishi UFJ. The move comes two weeks after real-estate rival Intu Properties said it would raise equity to buy a 250 million pound shopping centre. Given British Land is placing about 10 percent of its issued stock, the 4 percent hit to its shares suggests the deal should get away okay.

These transactions have different motivations, but both look opportunistic. Right now, the window is open for selling equity. It’s not just that many indices are testing all-time highs. Equity volumes are up, volatility is low, and there is a deep pool of buyers. Institutional investors caught on the hop by surging stocks are seeking ways to ramp up their allocations to the asset class: discounted share sales like these provide a chance to catch up.

Such conditions also favour a faster-than-expected rebound for the new-issues market – the ultimate barometer of the health of equity capital markets. That requires investors to have a bit more of a sense of adventure than just buying familiar stocks on the cheap. So far, investors with an appetite for risk have preferred to invest in high-yield bonds. There are signs that this may be about change.