Will Credit Suisse be the 2022 Lehman Brothers? Citi thinks otherwise

Shares of Credit Suisse, one of the world's largest banks, have witnessed a sharp sell-off in the last one month as investors remained concerned about the financial health of the Swiss banking giant amid ongoing speculation around the future of the lender in the market and as well as on social media platforms. The situation is being compared to the Lehman Brothers' bankruptcy in 2008 when Switzerland’s largest bank, UBS Group AG faced insolvency and needed a government bailout to survive. However, analysts at Citigroup think otherwise and believe that Credit Suisse's position is better than its peers. They have recommended Credit Suisse stock to "a buy for the brave" at current levels, saying "This is not 2008".

On Monday, shares of Credit Suisse tumbled as much as 11.5% and its bonds touched record lows as investors turned jittery ahead of a restructuring plan slated to be announced with third-quarter results on October 27. The market capitalisation of the Switzerland’s second-largest bank by assets has more than halved to $10 billion, from $22 billion a year-ago, while share price has crashed over 56% during this period, from 9.15 Swiss francs on October 4 to 3.94 Swiss francs as of now. The bank’s five-year credit default swaps (CDS), a type of insurance against default risk, have widened from 57 basis points at the beginning of this year to around 250 basis points as of now, the highest level since 2008.

Credit Suisse's free fall continues despite its CEO's attempts to alleviate fears about the health of the company. Chief executive Ulrich Koerner last Friday told employees about the bank’s solid capital and liquidity position. The comment by the CEO triggered fresh concerns about the financial health of the company and spilled into an online frenzy on social networks.

In a fresh development, the fund management of the Swiss real estate fund Credit Suisse Real Estate Fund Green Property has decided to postpone the capital increase announced for the fourth quarter of 2022, citing the high volatility in the market for real estate funds and the market environment, which has deteriorated significantly in recent weeks.  

“Credit Suisse Funds AG has largely completed preparations for the capital increase of Credit Suisse Real Estate Fund Green Property as planned. However, the past weeks have shown that real estate funds are experiencing a persistently difficult phase with high volatility in the market for listed Swiss real estate funds. Given these market conditions, which have deteriorated significantly since the announcement was made, a successful issue in the fourth quarter of 2022 cannot be guaranteed,” it says in a release on October 3.

“The fund management will closely monitor the development of the market and will decide in due course on a possible implementation of the capital increase for Credit Suisse Real Estate Fund Green Property,” it added.

Citi's view on Credit Suisse

According to Citigroup, Credit Suisse has Common Equity Tier 1 (CET1) ratio of 13.5%, which is highest as compared to its peers. The CET1 ratio compares a bank's capital against its risk-weighted assets to determine its ability to withstand financial distress. The bank’s liquidity coverage ratio (LCR), a proportion of highly liquid assets held by financial institutions to meet short-term obligations, stood at 191%, which is among best in class and indicates that the liquidity position is very healthy.

Citigroup says the bank’s widening credit default swaps (CDS) is a major concern for the private bank as it raises the risk of default on the contract. A CDR is a financial contract between two parties—protection buyer and protection seller – which is used to transfer and manage credit risk in an effective manner through redistribution of risk. A higher CDR cost can lead to bankruptcy if the buyer fails to pay interest or principles to the seller.  

“In the short-term widening credit spreads can exacerbate market fears, result in negative press coverage and damage counterparty confidence, as well as drive funding costs higher. In the long-term the further the share price falls the more dilutive any capital raise becomes (and vice versa), which constrains the magnitude of any investment banking restructuring that CS can undertake,” Citi says in its report.

On restructuring of the bank, the brokerage said that an exit from securitised products is plausible without the need for a capital raise. “However a broader exit (e.g. from leveraged finance and credit too) could prove more costly and push the bank into needing more capital. The current multiple therefore constrains the new management’s ability to restructure the investment bank and we fear the tail will continue to wag the dog (we already apply a negative value to the investment bank in our SOTP valuation),” it adds.

The brokerage says that Credit Suisse stock is a “buy for the brave” at current levels, but headline news flow is likely to remain negative, and the agency does see significant execution risk in any new strategic plan.