Credit Suisse Looking To Scale Down Prime Brokerage Unit

In the latest move by Credit Suisse (NYSE:CS) to shore up its balance sheet, the Swiss banking giant is reportedly looking to shrink its prime brokerage unit. ^[1] The business that primarily serves hedge funds has not been able to generate enough returns to justify the sizable amount of capital it ties up. Credit Suisse also intends to follow up the efforts with an increase in the fees it charges all hedge fund clients.

Swiss capital requirements for the country’s largest banks are the strictest in the world, and Credit Suisse and its rival UBS (NYSE:UBS) have put in considerable effort since 2011 to improve their capital structures (see Understanding The Impact Of Stricter Capital Rules For Swiss Banks). But the increasing focus on leverage ratios by the Swiss National Bank (SNB) and growing investor concerns about Credit Suisse’s heavy reliance on capital-intensive investment banking operations forced the bank to announce plans to deleverage by CHF 70 billion ($71.5 billion) in October (see Credit Suisse Announces Another Round Of Reorganization After Poor Q3 Showing). The bank has already detailed plans to cut down on its interest rate and commodities business this year, as it works towards a business model with total assets divided in roughly equal parts between its private banking and investment banking operations.

We maintain a $32 price estimate for Credit Suisse’s stock, which is about 20% ahead of the current market price.

See our complete analysis of Credit Suisse here

Over the last few years, Credit Suisse has been walking a tightrope to ensure that its goal of shrinking its balance sheet and cutting costs across its business units does not end up eating into its top-line numbers in the long run. The bank began working towards its capital requirement and profitability targets by first simplifying its business model into just two operating divisions: the private bank, which includes its Swiss and international private banking, wealth management and asset management units; and the investment bank, which includes its sales and trading, advisory, underwriting, financing and prime brokerage units (see Credit Suisse Announces Simpler Organizational Structure To Focus Business, Cut Costs). While the bank has made significant progress in meeting its targets, investors have questioned Credit Suisse’s decision to retain a full-fledged investment bank on several occasions over recent months – especially since its larger rival UBS has shrunk its fixed income trading business to a fraction of its original size.

In an attempt to ease investor concerns and take an important step towards meeting tighter leverage ratio requirements, Credit Suisse is now mulling cuts in its prime brokerage business. The business unit, which provides services such as securities lending, leveraged trade executions and cash management, primarily to hedge fund clients, is quite capital intensive. Credit Suisse is a market leader in the prime brokerage business and was ranked first in Europe, second in Asia and third in the Americas across several surveys in 2013, as reported by the bank in its annual report. But the unit has not been very profitable of late. With the proposed cuts and a likely increase in the fees it charges clients, Credit Suisse aims to run a smaller, more profitable prime brokerage unit while reducing the size of its total risk-weighed assets (RWAs) in the process.

The move will positively impact Credit Suisse’s investment banking operating margins in the long run. You can see how a change in these margins affects the bank’s share value by making changes to the chart below.

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1. Credit Suisse to shrink prime brokerage, Financial Times, Dec 7 2014 [↩]