DBRS: Credit Suisse Ratings Unchanged After US Settlement, Trend Remains Negative

DBRS, Inc. (DBRS) comments that Credit Suisse Group AG’s (CSG or the Group) settlement with the US authorities has no immediate impact on the rating. DBRS currently rates the Group’s Senior Unsecured Long-Term Debt at AA (low). At the bank-level, DBRS rates Credit Suisse AG’s Senior Unsecured Long-Term Debt & Deposits at AA and Short-Term Debt at R-1 (high). All ratings have a Negative trend.

The USD 2.8 billion / CHF 2.5 billion settlement finalizes all outstanding cross-border matters, reducing the uncertainty factor around the potential cost of legacy issues. The sizable after-tax charge of CHF 1.6 billion, net of existing provisions, will be taken in 2Q14 and will likely drive a loss in the quarter, but DBRS expects that the Group will remain profitable on an annual basis. While CSG should be able absorb the charge through earnings, given its ability to generate sizable income before provisions and taxes (IBPT), which totaled CHF 3.9 billion in 2013, the settlement charge will adversely impact capital ratios.

The Group’s core Tier 1 capital ratio, on a pro-forma basis, would have been reduced to 9.3% from 10.0%, on a fully-loaded Basel III basis, if the settlement charge had been applied at the end of 1Q14. At the low end of the peer range, DBRS will look for this ratio to show consistent and steady improvement in the coming quarters. Through earnings retention and risk-weighted asset reductions, CSG targets a return to a 10% ratio by year-end 2014. DBRS will continue to monitor the Group’s progress in meeting capital targets.

Furthermore, a charge of this size results in headline risk which could have an adverse impact on CSG’s reputation, as well as a negative impact on client and counterparty confidence. Negative rating pressure could arise if DBRS perceives that these issues are causing damage to its Private Banking & Wealth Management (PB&WM) franchise. DBRS will continue to monitor various metrics which could indicate franchise impairment, including net asset outflows or loss of deposits, which could imply waning client confidence, as well as increased funding costs or shorter-duration funding, which could show counterparty concerns. Additionally, underlying earnings weakness, outsized to peers, or any significant loss of market share in strategic Investment Banking (IB) businesses could also pressure the rating.

The settlement includes payments to the US Department of Justice, the US Internal Revenue Service, the New York State Department of Financial Services (NYS DFS), and the US Federal Reserve (Fed). (Previously in 1Q14, CSG settled with the SEC related to US tax matters.) The settlement includes a guilty plea by CSG’s banking subsidiary, Credit Suisse AG (the Bank), which is domiciled in Switzerland. The NYS DFS has stated that it will not initiate proceedings to revoke CSG’s New York banking license. The Swiss Financial Market Supervisory Authority (FINMA) has also confirmed that there will be no impairment of banking licenses in the US, the UK or Switzerland.

DBRS also notes that a guilty plea and settlement of this size does not come without added regulatory oversight, which has the potential to drive increased regulatory and compliance costs. For example, the Fed requires CSG to implement a Management Oversight Plan that has been approved by the Fed, followed by written progress reports quarterly. The NYS DFS requires the installation of an independent monitor of DFS’s choosing inside the Group to review employee conduct and corporate governance, among other things.

FINMA has also published the results of its investigation into CSG’s business with US clients. Previously stating in 2012 that “Credit Suisse had violated its duty to identify, limit and monitor risks relating to its US business”, FINMA has found that the Group has implemented the remedial measures ordered by FINMA and an independent examiner has deemed CSG’s risk management and risk control measures to be adequate. This provides comfort that the Group’s risk management controls and practices have been improved and strengthened.

DBRS continues to monitor the Group’s success with its strategic plan, including meeting or exceeding targets and progress in business repositioning. Reflected in the Negative trend is DBRS’s assessment of CSG’s evolving risk profile and earnings power in light of the changing global operating environment, which is putting constraints on business practices and pressuring returns in certain businesses within its global capital markets operations.

Notes:
All figures are in Swiss francs unless otherwise noted.