DBRS: Credit Suisse Strategic Franchise Remains Resilient with 2Q14 Loss Driven by US Tax Settlement

Summary:
• CSG reported net loss of CHF 700 million in 2Q14 driven by the CHF 1.6 billion post-tax charge resulting from the settlement of all outstanding US cross-border matters.
• Strategic Franchise remains resilient, with strong net new asset inflows and solid investment banking revenues.
• Capital position weakened with quarterly loss, down 50 basis points (bps) QoQ with fully-loaded Basel 3 Common Equity Tier 1 at 9.5%.
• DBRS rates Credit Suisse Group AG Senior Unsecured Long-Term Debt at AA (low) and Credit Suisse AG Senior Unsecured Long-Term Debt & Deposit at AA; all ratings have a Negative trend.

In DBRS, Inc. (DBRS) opinion, the 2Q14 financial results of Credit Suisse Group AG’s (CSG or the Group) illustrate the resilience of the Group’s strategic franchise, despite legacy issues continuing to have a significant impact on overall profitability.

In 2Q14, CSG reported a net loss of CHF 700 million driven by the CHF 2.5 billion settlement with US authorities finalising all outstanding US cross-border matters. The settlement also included a guilty plea entered into by Credit Suisse AG, the Group’s main operating subsidiary based in Switzerland. While this sizable charge drove the Group’s 2Q14 consolidated net loss, DBRS views positively the finalisation of this settlement as it reduces the uncertainty around the potential cost of legacy issues. Also, whilst CSG remains subject to litigation risk, DBRS notes that ongoing investigations into LIBOR & foreign exchange rate setting are not specific to the Group.

The Private Banking & Wealth Management division (PB&WM) continues to report net asset inflows on a quarterly basis, with net new assets of CHF 11.8 billion on a strategic basis in 2Q14. Specifically, strong WM inflows from clients in emerging markets, particularly in Asia-Pacific, and Switzerland, combined with solid net asset inflows within Asset Management, in emerging markets, as well as index, hedge fund and credit products, contributed to growth in assets under management to a sizable CHF 1.3 trillion.

Investment Banking (IB) reported largely stable pre-tax profit of CHF 1 billion in 2Q14, on a strategic basis, as compared to the prior quarter, on modestly lower net revenues of CHF 3.4 billion. Fixed income sales & trading (S&T) net revenue in the Group's strategic businesses posted solid net revenues of CHF 1.5 billion in the quarter, driven by CSG’s strength in high yield products as the low interest rate environment enhanced investor demand for yield. While performance within fixed income S&T has generally been weak across the large capital markets participants, CSG reported a lesser decline in net revenues than its US peers, demonstrating its strength across products including, securitized products, credit and emerging markets. This helped to offset declining equity S&T revenue, which was impacted by lower client activity and weaker performance in cash equities. CSG’s underwriting and advisory net revenue were also solid in 2Q14, following strong equity underwriting activity across EMEA and APAC.

CSG continued the refocus of its IB business mix on less capital intensive and higher returning business in 2Q14, with the announcement of further restructuring of its Macro business. While the Group has made notable progress in executing its strategic plan, the long-term success of the reoriented IB remains to be seen. The Group announced the simplification of its Rates product offering, the transferal of a significant portion of its FX business to electronic trading platforms, and its complete exit from Commodities trading, which will be transferred to the non-strategic unit in 3Q14. The implementation of these changes to the Macro business is targeting approximately USD 200 million of expense savings, approximately USD 8 billion of risk-weighted asset (RWA) reduction and approximately USD 25 billion of leverage exposure reduction.

CSG’s net loss in 2Q14 resulted in a 50 bps decrease in the Group’s fully loaded Basel III common equity tier 1 (CET1) ratio to 9.5% at end-2Q14, which DBRS notes is at the lower end of the Group’s peer range. DBRS will look for this ratio to show consistent and steady improvement in the coming quarters. DBRS acknowledges that the Group is targeting an above 10% CET1 ratio by end-2014 through earnings retention, RWA reduction and the sale of real asset assets, and has re-confirmed its long-term CET1 target of 11%.

DBRS rates Credit Suisse Group AG Senior Unsecured Long-Term Debt at AA (low) and Credit Suisse AG Senior Unsecured Long-Term Debt & Deposit at AA; all ratings have a Negative trend.

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