Before the small stock market crash we saw a couple of weeks ago, both UBS (UBS) and Credit Suisse (CS) stocks rallied. The reason for the gains was a report by Inside Paradeplatz that the two Swiss banks had decided to merge. Concurrently, some analysts, most notably Andreas Venditti, an analyst at Vontobel, believe the deal is unrealistic due to regulatory hurdles. Representatives at both banks say the merger deal is just a rumor. At the same time, it was reported that consultants from McKinsey arrived to draw up a road map of the potential deal. Here, I’ll analyze the potential deal between Credit Suisse and UBS.
CS and UBS merger – Regulatory hurdles and other concerns
Broadly speaking, governments are sometimes reluctant to accept big mergers. Why? Well, the most obvious reason is their dislike of monopolies. This is simply anti-competitive. A large bank can, theoretically, act against its clients’ interests, for example, charge them higher fees or provide poor-quality services because its clients would have little or no choice.
What is more, if the really large newly formed bank struggles during the next downturn, the government would have to use a lot of taxpayers’ money to bail it out. A situation like this happened to UBS during the Great Recession of 2008-2009. But it does not make much sense. If everyone struggles, then the government would probably have to bail out most of the banks anyway. Besides, the government would highly unlikely have to save the newly established bank during economic hardship, given the size it would have.
Another reason for a potential government bailout could be a major scandal. But this is not plausible either. That’s because the bank would be very large and closely monitored by the regulator.
CS and UBS merger – Key advantages
To start with, it would lead to cost synergies. Unfortunately, the newly formed bank will make 15,000 employees redundant. This will lead to negative social consequences, of course. So, it might also be one of the regulator’s major concerns. However, it will greatly reduce the two banks’ costs.
What is more, Elisa Martinuzzi, a contributor at Bloomberg, pointed out, “the combined firm would get closer to having the full-service investment-banking offering that neither UBS nor Credit Suisse has on their own. A leader in equities, UBS, would marry a top player in credit markets. After shrinking in the aftermath of the financial crisis, UBS did away with much of its fixed-income business which Credit Suisse would complete. Likewise, Credit Suisse would strengthen UBS’s M&A and capital markets teams in the U.S.”
In my two articles on Credit Suisse and its bigger rival UBS, I mentioned how the two banks’ revenues were distributed. In short, both the financial giants have a strong focus on wealth management. And it is to their advantage, indeed. It looks like anemic economic growth and depressed interest rates are here to stay. What’s more, people tend to save more. This seems to be particularly the case in Asia. In the region there is a growing middle class. The number of wealthy individuals is rising too. All that looks like a wonderful opportunity for the new bank, which seems to have ambitious plans to expand in Asia.
However, there might well be some sort of customer overlap for the banks. In other words, some clients have accounts both at Credit Suisse and UBS. But the new bank will still end up getting an enormous customer base. So, the new firm would be able to compete with American and Asian giants.
What’s more, the large bank will enjoy economies of scale too. Although many experts fear that the Swiss central bank (SNB) would pay very close attention to the newly formed large bank, it is, in fact, to the advantage of the latter. The new bank will be so large that it will most certainly not be allowed to fail or cheat its clients and shareholders.
It is especially relevant since many banks have recently been accused of money-laundering practices. The most notable scandal was, arguably, due to Deutsche Bank laundering about $1 trillion. Neither UBS nor Credit Suisse was involved in a scandal like this. But just like the whole banking industry, the two banks’ shares are trading at discounts to their book values. So, it looks like merging or acquiring one of the two banks looks reasonable at the current share prices.
There is also another sound argument for consolidation. The financial industry in general is not going through very good times. The economic recession, coupled with zero and negative interest rates, has put the financial industry under threat just like other cyclical sectors. This is one of the reasons why European regulators are now more supportive of consolidation in the financial industry.
Surely, big banks like Credit Suisse and UBS have other revenue sources, not just borrowing and lending money. UBS, for example, has the largest wealth management unit for rich clients in the world. What’s more, volatility is one of the best friends for banks’ trading revenues. At the same time, banks’ shareholders in general did not have a very good time this year. In my view, massive bankruptcies, and hence, debtors’ inability to repay their loans make banking somewhat risky these days. The more obvious the need for consolidation is. By all means, huge banks are better able to survive and flourish.
In my view, there might be some regulatory hurdles to the deal. But at the same time, there are serious economic reasons for such a merger. Most importantly, it will lead to cost cuts and allow the new bank to compete with larger peers. It is particularly relevant now, when the banking industry is not going through the best of times.
Disclosure: I am/we are long CS, UBS. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.