Thursday 24 March 2016

What Credit Suisse losses say about the fate of the banking sector

After 9 months as the new head of Credit Suisse, Tidjane Thiam has made a frightening concession surrounding his oversight of the company by indicating that traders within the firm had ramped up their positions of illiquid and distressed debt holdings without the knowledge of their seniors going as far to say that even he had no knowledge that such activity was happening right under his nose.

This comes as the banking firm looks set to report another quarter of losses following a dismal previous quarter where Thiam announced a major restructuring program that aimed to trim off fat and focus the company in the direction of wealth management.

Following these new revelations Thiam looks set to deepen his restructuring program by cutting more costs one of which proposes an additional 2000 jobs cuts on top of the planned 4000 taking the the tally to 6000. One does get a sense of eeriness when a CEO of a major financial institution makes such statements that you begin to wonder if banks may be headed for troubled times.

The reason for such thinking is supported by the fact that the dawn of negative interest rates has beckoned on many in the financial system to re-think or adjust their strategies so as to align the current interest rate environment with that of a profitable financial institution business model. However having never experienced a situation where interest rates are below zero there's no common theory to apply their minds too that would aid these financial houses of the appropriate measures needed to be taken.

What Thiam has revealed is precisely what we will see coming through from other major banking firms as the months pass and the effects of negative interest rates take their full toll on the economy.
Conventional thinking would suggest that for a bank to make money it needs to make loans available to those who require the funds. In return the bank receives interest which contributes to the profitability of the business. However banks are now burdened with the reality of receiving no interest for loans made available but instead pay the borrower to loan the money.

This can't be the case as the majority of  banks profits come from interest earned on loans which would decimate banks earnings. Banks have so far resisted this practice as it would mean that they would be entitled to charge depositors interest for having their money in the bank. This would lead to many depositors removing their savings from the bank thus shrinking the size of the potential loans that could be made available.

We can see from the above paragraphs that the landscape of banking has dramatically changed due to the onset of negative interest rates but it hasn't stopped shareholders of these companies expecting profitability. It's this exact point why we've seen a drive by management to attempt to seek out profits over and above what is considered the norm resulting in the business taking on more risk than would be necessary.

But as the global economy becomes a curveball of uncertainties nobody really knows when we'll see healthier economic times creating a financial storm of volatile proportions with just the right mix of fearfulness that triggers off the most violent financial market moves causing deep declines in asset valuations.

 Perhaps they could turn to the mainstay of good returns found in emerging markets but even their risk profiles have markedly increased over the past year following a bleak Chinese outlook that's left many uninspired, dejected and more so burdened by huge debt piles that require faster growth to pay them off yet not finding any joy in it.

It feels as if the financial market space is becoming claustrophobic with avenues of return wearing thin as the benchmark rate of return in the economy drops below zero and further downwards. This circus will only end when policymakers realise what the error of their judgement is causing and feel the urgency of shifting the extremity away from the edge and bring normality back into existence. Until then the world financial system will walk a tightrope in the hope that logic eventually prevails but hopefully by then it isn't too late.

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