European Banks Risk Becoming Irrelevant

International bond underwriting is where the biggest U.S. and European banks compete for the right to raise capital for the world’s biggest borrowers. This year, the total borrowed has reached almost $4 trillion. What has become clear is that European banks are ceding this business to the United States. And the consequences will be felt in other areas of their businesses:

At the start of this decade, Deutsche Bank was consistently the No. 2 underwriter of international bonds. Last year, it dropped to sixth place; this year, Germany’s biggest bank is down to seventh. In 2010, Deutsche Bank controlled 7.3 percent of the international bond market; this year, its share is down to 5.1 percent. With Chief Executive Officer John Cryan continuing to make cuts to the investment bank -- Chief Risk Officer Stuart Lewis told Die Zeit newspaper this week that the bank’s derivatives book is still too large -- it seems unlikely that Deutsche Bank’s appetite for bond sales will return anytime soon.

Who will fly the European flag? Not the U.K.’s Barclays, which led the pack for international bond management at the start of the decade, topping the 2010 table with a market share of more than 8 percent. Like Deutsche Bank, Barclay’s has been shrinking its investment-banking activity amid tougher post-crisis capital regulations from U.K. regulators. While it remains third in the league table, its share has dropped to 6.8 percent, behind both JPMorgan and Citigroup (more on them later).

Barclays is now poised to discard as many as 7,000 of its least-profitable corporate customers, in addition to the 17,000 clients it’s already jettisoned since 2014. Shedding customers is a surefire way to shrink your balance sheet -- as well as your revenue and your potential profit.

Other European banks seem to be giving up on bond underwriting altogether. In 2010, Royal Bank of Scotland was a credible player in international bond management, with a market share of a bit less than 4 percent putting it in 11th place in the underwriting table. Now, it has less than 1.4 percent of the business.

The bank has been distracted by scandals and management problems. It missold loan insurance to U.K. retail customers, faces investor lawsuits over how it raised capital in 2008, and is being probed in the U.S. over mortgage-backed securities. It failed the Bank of England’s stress tests last month, eight years after a taxpayer bailout that saw it made a ward of the state at a cost of more than 45 billion pounds. Little wonder it’s poised to report its ninth consecutive annual loss in February.

The Swiss banks have fared no better. At the start of the decade, Credit Suisse and UBS were, respectively, the sixth and seventh biggest managers of international bond sales, each with about 4.3 percent of the market. This year, Credit Suisse is down to 11th with 2.5 percent of the business. UBS is 16th, with a 1.8 percent share. That’s a major decline from the early days of the Eurobond market when some three-quarters of all the newfangled securities were bought by Swiss investors.

So if the Europeans are effectively letting the international bond market slip away, who’s benefiting? JPMorgan tops the table with 7.8 percent, as it did last year with 8 percent; that’s about the same as its position at the start of the decade. Citigroup has improved its standing to second from third, and increased its business to 7.2 percent from 6.5 percent in 2015; in 2010, it was a lowly eighth, with 4 percent. 

But it’s Goldman Sachs that has been making hay. In sixth place with 5.6 percent of the market, it’s little changed from last year but up from 10th with less than 3.9 percent in 2010.

The one bright spot on the European map comes courtesy of HSBC Holdings. As the U.S. subprime mortgage crisis took off, the U.K. bank was quick to realize that Household International, the U.S. lending business it paid $15.5 billion for in 2003, was bust. It was the first European bank to make provision against subprime losses, and was quick off the mark in raising almost $18 billion in fresh equity in 2009.

As a result, HSBC is one of the few European firms that hasn’t been actively shrinking its balance sheet. Its total assets of $2.6 trillion are bang in line with the average for the first half of the decade.

With its market share rising to 6.6 percent from 5.2 percent, HSBC Holdings is also one of the few European banks to have increased its international bond underwriting business since 2010 (France’s BNP Paribas has improved a tad to 4 percent from 3.9 percent, leaving it little changed from last year). It’s telling, then, that HSBC’s shares are up more than 20 percent this year, compared with Deutsche Bank’s 20 percent decline and Barclays’s basically unchanged valuation in 2016.

The universal banking model -- in which banks both serve retail and corporate customers -- was always likely to struggle as market overseers try to resolve the too-big-to-fail problem. Trying to provide a one-stop shop in finance is hard enough in the good times, let alone in an environment where regulation makes some businesses unprofitable by increasing how much capital has to be set aside against potential risks and losses. 

But banks that don’t commit capital to underwriting bond sales for their clients are likely to miss out on more lucrative deals, such as mergers and acquisitions. Europe’s finance firms risk becoming irrelevant if they concede too many markets to their American cousins, and that can’t be good for the companies or the economies that they serve.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

To contact the author of this story:
Mark Gilbert at magilbert@bloomberg.net

To contact the editor responsible for this story:
Therese Raphael at traphael4@bloomberg.net