UBS and Credit Suisse’s dealing rooms buzzed with risk as the corona crisis roiled financial markets. They are meant to stow more capital as a result – but neither did. finews.com explains why.
Credit Suisse’s revenue from trading climbed 25 percent in the first quarter – but this came at a cost. The Swiss bank’s potential for losses on any given day – as measured by value-at-risk, or VAR – surged by 296 percent versus year-end, to $103 million, according to its recently disclosed quarterly report.
The VAR disclosure comes against the backdrop of daily trading risks on Wall Street hitting the highest level in nine years as the pandemic spread through Europe and the U.S. The trading boom helped drive Credit Suisse’s quarterly profit 75 percent higher on the year but kept the Swiss bank’s risk managers busy.
Extreme Market Swings
Specifically, both major Swiss banks are required to demonstrate the accuracy of their VAR measures through daily back-testing measures. If these tests produce too many exceptions to the real losses, the banks are required to pony up more capital against the risk-taking. Unsurprisingly, the corona-induced market ructions in March sparked outliers at both banks. VAR measures aren't directly comparable between UBS and Credit Suisse because each is generally permitted to pursue their own methodology.
UBS, where markets income surged 44 percent on significantly higher volumes and volatility, observed three such exceptions in the quarter: «These resulted from the unprecedented price moves in various asset classes,» it said. Volatility in foreign exchange, interest rate products, and cash equities was especially sharp.
From Zero to Seven
At Credit Suisse, the testing produced seven outliers – enough to trigger an additional capital requirement against the risk – vs. zero in January. Most back-testing exceptions are not due to the banks’ dithering on their math but to massive market volatility.
In fact, neither of the Swiss giants face any consequences for the outliers: in April, lead regulator Finma effectively froze in time the math to calculate how much more capital it wants from banks – at the status of February 1, far before corona hit Europe.
Finma «Freezes» Time
Finma said it would maintain the «freeze» until July 1 but could extend it. The thinking is to unshackle as much capital as possible for UBS and Credit Suisse, which are the foot soldiers in a government-backed $40 billion lending bazooka. It comes alongside an easing of surcharges on Swiss franc deposits as well – a bid to get money out the door to borrowers as quickly as possible.
For UBS, the Finma reprieve had little effect: the wealth manager’s outliers in the eight weeks of February and March wouldn’t have triggered a new capital calculation anyway (it had zero exceptions in the 250 trading days before the freeze). Credit Suisse’s seven outliers, however, would have: the size of its trading portfolio hadn’t changed during corona, it said in its quarterly report. «We regularly review our VAR model to ensure that it remains appropriate given evolving market conditions and the composition of our trading portfolio,» the bank said.
UBS: Not Out of the Woods
Nevertheless, UBS isn't out of the woods: its risk-weighted assets, or RWA, rose by more than one quarter to $103 billion. It expects to stay at that level in the coming months «anticipating additional drawdowns of credit facilities and increased market volatility impacting VAR.»
UBS also said the volume and market volatility stretched capacity at its investment bank, leading to a rise in operational errors. «As transaction volumes have come down from peaks, our focus shifted to the clearance of the backlog of failures and breakages,» UBS said.
Burdened with more onerous capital requirements than their U.S. counterparts, the Swiss are still flying below the level of big Wall Street hitters. Taken together, the top five U.S. investment banks’ VAR hit the highest level in 34 months, according to an analysis by the «Financial Times».
