Today’s Number: 10,000 (Lost Jobs at UBS)
Is UBS’s exit from fixed-income trading a harbinger that other self-correcting measures will take hold in the financial industry?
November 1, 2012
I don’t particularly like American TV, but “Out Front,” on the cable channel CNN, is hands down my favorite news show on the tube. Erin Burnett, the program’s host, presents a daily number — and today, I am borrowing her concept.
“Ten thousand” is not necessarily an impressive number in times when we are routinely throwing around billions and trillions. Ten thousand dollars won’t even buy you a cheap car these days. However, when the number is connected to jobs, 10,000 suddenly becomes significant.
Today’s number refers to the number of jobs that are going to be eliminated at UBS, the Swiss financial giant. Tuesday’s announcement by the bank was sure to grab the media’s attention.
In order to understand the magnitude of what just happened at UBS, we need to look beyond and behind the number. This is not just a story of a large employer culling its rank and file.
Against the backdrop of the entire global financial industry, there is a much deeper significance that is worth exploring in more detail. One can only hope that it will be a harbinger of changes that are in store beyond UBS.
After all, the financial industry still has a lot of clean-up to do from the hurricane it caused in 2007-08.
The 10,000 jobs that UBS is going to eliminate are all tied to one area of the bank’s overall activities: fixed-income trading.
In plain language, that is the business by which a bank, like most major global players, bets its balance sheet on fixed-income securities and derivatives. This includes subprime mortgage bundles, credit-default swaps and other similar types of synthetic financial products.
This is the line of business that created a $47 billion problem for UBS when all the chips in the subprime game had fallen in 2008. It is also the business line where Kweku Adoboli, a rogue trader at UBS London’s branch, was able to hide over $2 billion in losses last year. Both cases have cost the bank’s CEOs their jobs, and its shareholders their dividends.
It is also the type of business that was at the center of the global financial crisis that started on Wall Street and spread across the planet. This led to trillions of dollars in taxpayer-funded bailouts and stimuli, as well as various rounds of “quantitative easing” (or printing of money) by the U.S. Federal Reserve.
To date, the large banks have gladly sopped up all that generous public financial support — but have actually done very little to either show penance or clean up their acts.
It is with good reason that some people call this kind of trading on a bank’s balance sheet institutional gambling. The onslaught of trading irregularities over the past decade or so certainly makes this part of the global financial industry look like a casino.
The list of rogue traders that gamed internal procedures to satisfy their own greed is impressive. Jerome Kerviel at Société Générale, Fabrice Tourre (a.k.a. the “Fabulous Fab”) at Goldman Sachs, Bruno Iksil (a.k.a. the “London Whale”) at JPMorgan Chase, Kweku Adoboli at UBS London, as well as the big LIBOR conspiracy at Barclays.
And let’s not forget about Nick Leeson, the pioneer of all rogue traders, whose $1.4 billion losses in the Singapore office of Barings Bank led to the bank’s insolvency and collapse in 1995.
The exit of UBS from this kind of business — engineered by none other than its new chairman Axel Weber, the former head of the German Bundesbank — is a demonstration of a number of forces at work.
First, proprietary trading of this nature can only be profitable if there is access to an abundance of cheap capital. As long as the party lasted, banks flooded their trading operations with cheap capital. In fact, they did so for decades — and created a bubble that at some point had to burst.
Now that time has come, as stringent new capital rules imposed by central banks and the Bank for International Settlements (Basel III) are making it much harder for banks to justify allocating scarce capital to professional gamblers.
Second, as the list of rogues shows, even the best control systems seem to be unable to prevent large trades going off the rails. These “oversights” evaporate months, quarters and sometimes even years for profits and create reputational risks that are hard to recover from.
In an era in which shareholders increasingly worry about corporate blow-ups and instead demand steady returns, there is simply no room anymore for shareholder-sponsored gambling.
In that sense, we may actually find that the system has the ability to self-correct. Even though the proof of that in the United States is still in question, the recent change at the head of Citibank does offer a basis for limited optimism.
UBS has the right read on what its shareholders expect, and its new strategy focuses on the right kinds of business. Wealth management will continue to grow, as will Swiss retail and commercial banking. They will all turn out steady returns.
It makes a lot of sense for UBS to focus its remaining investment banking activities on those areas that can support the core franchise in wealth management, retail and corporate banking. They eliminate the risks of unpredictable returns and the potential for ongoing scandals from the trading business.
The fact that UBS is exiting the trading business is not the whole story, however. If UBS had come to the conclusions that led to Tuesday’s announcement only a few years ago, the bank could have sold its trading unit for a significant amount of cash.
Today, exiting the business translates into an agonizing effort of externalizing the business and winding it down outside of the bank’s balance sheet over several years. In the aftermath of the global financial meltdown, there are simply no buyers. All the main players are dealing with scarcity of capital.
The absence of purchasers may be one reason why we have not seen other banks taking similar steps as UBS in the recent past. The firm’s remaining in the market — such as Barclays, JPMorgan Chase, Citi and Deutsche Bank — are licking their chops over UBS’s exit, hoping for higher margins as a result of lesser competition.
Only the future will show whether the hopes of those who remain in the rat race will materialize. The more hopeful scenario for the world at large is that the risk that UBS so boldly eliminated from its balance sheet will come back to haunt those remaining banks.
Stringent new capital rules are making it much harder for banks to justify allocating scarce capital to professional gamblers.
The onslaught of trading irregularities over the past decade makes the fixed-income part of the global financial industry look like a casino.
Banks flooded their trading operations with cheap capital for decades — and created a bubble that at some point had to burst.