Banking experts predict what could happen next

Credit Suisse may have received a liquidity lifeline from the Swiss National Bank, but analysts are still assessing the troubled lender’s outlook, weighing the possibility of a sale and whether it is indeed “too big to fail.”

Credit Suisse’s management began crunch talks this weekend to assess “strategic scenarios” for the bank, Reuters reported, citing sources.

It comes after the Financial Times reported on Friday that UBS is in talks to take over all or part of Credit Suisse, citing several people involved in the discussions. Neither bank commented on the report when contacted by CNBC.

According to the FT, the Swiss National Bank and its regulator Finma are behind the negotiations, which aim to strengthen confidence in the Swiss banking sector. The bank’s U.S.-listed shares were about 7% higher in after-hours trading early Saturday.

Credit Suisse is undergoing a massive strategic overhaul aimed at restoring stability and profitability after a string of losses and scandals, but markets and stakeholders still seem unconvinced.

Shares fell again on Friday to record their worst weekly decline since the start of the coronavirus pandemic, failing to hold on to Thursday’s gains, which followed an announcement that Credit Suisse would access a loan of up to 50 billion Swiss francs (US$54 billion) from the Central Bank.

Credit Suisse lost around 38% of its deposits in the fourth quarter of 2022 and revealed in its delayed annual report earlier this week that outflows have yet to reverse. It reported a full-year net loss of 7.3 billion Swiss francs for 2022 and expects a further “material” loss in 2023 before returning to profitability next year as restructuring begins to bear fruit.

This week’s stream of news has hardly changed the minds of depositors considering withdrawing their money. Meanwhile, credit default swaps, which insure bondholders against a company’s default, rose to new record highs this week.

According to the CDS rate, the bank’s default risk has risen to crisis levels, with the 1-year CDS rate jumping nearly 33 percentage points to 38.4% on Wednesday, before ending Thursday at 34.2%.

UBS sale?

There has long been talk that parts – or all – of Credit Suisse could be acquired by domestic rival UBS, which boasts a market capitalization of about $60 billion to its struggling compatriot’s $7 billion.

JPMorgan’s Kian Abouhossein described a takeover “as the more likely scenario, particularly by UBS.”

In a note Thursday, he said a sale to UBS would likely lead to: the IPO or spinoff of Credit Suisse’s Swiss bank to avoid “too much concentration risk and market share control in the Swiss domestic market”; the closure of its investment bank; and retention of the asset management and asset management departments.

Both banks are reportedly opposed to the idea of ​​a forced tie-up, although this week’s events could well have changed that.

Bank of America strategists noted Thursday that Swiss authorities may favor consolidation between Credit Suisse’s flagship domestic bank and a smaller regional partner, as any combination with UBS could create “too big a bank for the country.”

‘Proper solution’ needed

The pressure is on for the bank to reach an “orderly” solution to the crisis, be it a sale to UBS or another option.

Barry Norris, managing director of Argonaut Capital, which has a short position in Credit Suisse, stressed the importance of a smooth outcome.

“The whole bank is essentially in a liquidation, and whether that liquidation is orderly or disorderly is the debate at the moment, but neither is creating value for shareholders,” he told CNBC’s “Squawk Box Europe” on Friday.

European bank shares have suffered steep falls over the latest Credit Suisse saga, highlighting market concerns about the contagion effect given the 167-year-old institution’s sheer scale.

The sector was rocked earlier this week by the collapse of Silicon Valley Bank, the biggest bank failure since Lehman Brothers, along with the collapse of New York-based Signature Bank.

But in terms of scale and potential impact on the global economy, these companies pale in comparison to Credit Suisse, whose balance sheet is about twice the size of Lehman Brothers when it collapsed, at around 530 billion Swiss francs by the end of 2022. It is also far more globally connected with several international subsidiaries.

“I think that in Europe the battlefield is Credit Suisse, but if Credit Suisse has to unwind its balance sheet in a disorderly way, these problems will spread to other financial institutions in Europe and also beyond the banking sector, in particular I think of commercial property and private equity, which also appear to be vulnerable to what’s going on in the financial markets at the moment,” Norris warned.

The importance of an “orderly decision” was echoed by Andrew Kenningham, chief European economist at Capital Economics.

“As a global systemically important bank (or GSIB), it will have a resolution plan, but these plans (or ‘living wills’) have not been put to the test since they were introduced during the global financial crisis,” Kenningham said.

“Experience suggests that a quick resolution can be achieved without triggering too much contagion, provided authorities act decisively and senior debtors are protected.”

He added that while regulators are aware of this, as evidenced by the SNB and Swiss regulator FINMA stepping in on Wednesday, the risk of a “disrupted resolution” will worry markets until a long-term solution to the bank’s problems becomes clear.

Central banks to provide liquidity

The biggest question economists and traders are grappling with is whether Credit Suisse’s plight poses a systemic risk to the global banking system.

Oxford Economics said in a note on Friday that it did not incorporate a financial crisis into its baseline scenario, as that would require systemic problematic credit or liquidity problems. Currently, the forecaster sees the problems at Credit Suisse and SVB as “a collection of various idiosyncratic issues.”

“The only general problem that we can infer at this stage is that banks – all of which have been required to hold large amounts of government debt against their floating deposits – may be sitting on unrealized losses on these high-quality bonds as interest rates have risen, ” said chief economist Adam Slater.

“We know that for most banks, including Credit Suisse, the exposure to higher interest rates has largely been hedged. Therefore, it is difficult to see a systemic problem unless it is driven by another factor that we are not yet aware of .”

Despite this, Slater noted that “fear itself” could trigger depositor flights, which is why it will be crucial for central banks to provide liquidity.

The US central bank moved quickly to set up a new facility and protect depositors in the wake of the SVB collapse, while the Swiss National Bank has signaled it will continue to support Credit Suisse, with proactive engagement also from the European Central Bank and the Bank of England.

“So the most likely scenario is that central banks remain vigilant and provide liquidity to help the banking sector through this episode. That would mean a gradual easing of tensions as in the LDI pension episode in the UK late last year,” Slater suggested.

However, Kenningham argued that while Credit Suisse was widely seen as the weak link among Europe’s big banks, it is not alone in struggling with weak profitability in recent years.

“Furthermore, this is the third ‘one-off’ problem in a few months, following the UK market crisis in September and the US regional bank crashes last week, so it would be foolish to assume there won’t be other problems coming down the road, ” he concluded.

— CNBC’s Darla Mercado contributed to this report