UBS - Credit Suisse: What To Look For In Its Upcoming Earnings

2023-04-21 09:30:24 ET

Summary

• Credit Suisse will report its Q1 2023 earnings next Monday.
• This will provide a much better view of the bank’s liquidity issues in recent months.
• While Credit Suisse's investment case as a stand-alone entity has ended, its earnings can have an impact on UBS Group’s share price.

Credit Suisse ( CS ) will report its quarterly earnings next Monday, and will provide investors more visibility into its liquidity issues that led to a forced merger with its rival UBS Group ( UBS ).

Background

As I’ve covered in a previous article , Credit Suisse had some turbulent months since mid-2022, and its valuation was quite depressed at the beginning of this year. While I thought this could be an opportunity for contrarian investors who were willing to wait for the bank’s turnaround plan to improve its fundamentals, the banking turmoil in March led to a forced merger with its main rival UBS Group and this contrarian play has clearly not worked out.

While Credit Suisse’s shareholders were not completely wiped out, the $3.2 billion valuation is quite low compared to the bank’s market value some months ago, leading to significant losses for shareholders.

While the bank’s balance sheet and capital ratios were good, as I’ve discussed in my previous coverage, Credit Suisse’s liquidity position was a major concern.

During Q4 2022, the bank had deposits outflows of about $110 billion due to weaker sentiment toward the bank, which was hurting its operating performance. This is very important because, contrary to other companies, banks rely to a large extent on wholesale and customers’ money to finance their balance sheet, and Credit Suisse’s cost of funding was rising considerably leading to lower business margins.

Indeed, to improve its liquidity position, the bank was paying higher deposit rates than most of its rivals during the first two months of 2023, especially to wealthy clients within its Wealth Management segment, which reportedly was bearing some fruits and the bank’s net outflows was much more moderate.

However, due to banking turmoil back in March, first in the U.S. and then some concerns about Credit Suisse’s sustainability, negative news flow led to strong outflows and a liquidity crunch at the bank, which culminated with the forced ‘marriage’ with UBS.

While the Swiss central bank (SNB) gave emergency liquidity funds to Credit Suisse, this was not enough to stop the bleeding and reportedly the bank would be out of business as a stand-alone entity in a matter of days.

However, as banks only report financial figures on a quarterly basis, there is not much data for outside investors and analysts beyond the bank’s figures at the end of 2022, which makes its upcoming earnings release quite interesting to have a better picture of what happened to Credit Suisse during the last quarter.

Investors should note that the Credit Suisse-UBS merger is still pending due to the required regulatory approvals, thus Credit Suisse will report its quarterly figures still as a stand-alone entity.

Credit Suisse Q1 Earnings Preview

As I’ve said previously, liquidity is a key factor to consider because this was the main root of Credit Suisse’s demise, thus some of the key factors I will be looking for in the earnings release is the bank’s total deposits and its asset liquidity pool at the end of March.

Credit Suisse had a ‘bank run’ in the middle of March, but so far there is no public knowledge of how much money left the bank and how much liquidity was needed from the central bank to avoid its collapse. While the bank received a liquidity injection of about $50 billion during the third week of March, this was not enough to stabilize the bank.

Given that at the end of 2022 Credit Suisse’s total deposits amounted to about $261 billion, outflows of around $50 billion represented ‘only’ 20% of its deposit base, which the bank was able to manage by its liquidity pool. As shown in the next graph, Credit Suisse had cash at central banks of about $69 billion at the end of 2022, thus its deposits outflows should have been higher than that for the bank to need a liquidity injection from the SNB.

Beyond cash at central banks, Credit Suisse also had securities that could be easily converted to cash, boosting its liquidity pool to $132 billion. This represents about 50% of total deposits, thus it seems quite likely that deposits outflows should have been close to this figure to put its business in jeopardy.

This clearly shows how banks can be vulnerable to investor and customer’s sentiment, which can lead to strong deposits outflows in a matter of days when sentiment turns extremely negative.

It also shows that liquidity management is critical for banks in the short term, and while during normal times this usually is not a big issue, during periods of market turmoil or risk-aversion towards a specific bank, liquidity becomes a critical factor for a bank.

In Credit Suisse’s case it had supposedly a strong capital and liquidity position compared to its peers, but this changed dramatically during the last quarter and was not strong enough to avoid its collapse. However, as the bank’s asset base and credit quality was good, one measure I’ll also be interested to analyze is its CET1 capital ratio given that following the AT1s wipeout (of about $25 billion), the bank should be one of the best capitalized banks in the world.

This should provide a strong cushion against potential losses on securities or other potential issues that UBS may find in Credit Suisse’s balance sheet, thus I think it’s not very likely that UBS will use state guarantees against Credit Suisse’s potential losses.

Regarding its operating performance, expectations are quite low given that Credit Suisse is significantly exposed to capital market activities and this was not a bright spot in the past quarter, as shown by recent earnings from U.S. large banks. Moreover, Credit Suisse should have lost market share following its own specific woes, thus revenues in the investment banking division should have been quite low.

In other segments, its operating performance has been probably more resilient, especially in its Swiss universal bank and asset management, while wealth management is likely to report strong net outflows during the quarter.

While the bank’s guidance was to report a net loss for 2023, its profitability in Q1 is likely to be much more negative than expected some months ago, given that costs are to a large extent sticky and lower revenues lead to negative operating leverage. Indeed, according to analysts’ estimates , Credit Suisse is expected to report a pre-tax loss above $1 billion in Q1 and a ROE of -4.5%, a trend that is likely to persist in the coming quarters until the bank merges with UBS.

Conclusion

Credit Suisse’s upcoming earnings release is quite interesting for investors, even though the bank is expected to merge in the short term with UBS and therefore its investment case as a stand-alone entity has ended. Nevertheless, its most recent financial figures will give a much better visibility into the bank’s woes that led to an orchestrated merger, and its stand-alone performance can have an impact on UBS Group’s share price, given that the merger is an all-share deal, and will therefore be closely analyzed by the market.

For further details see: