ZURICH, March 12 An overhaul that marks the end of Swiss bank UBS's big-league investment banking ambitions is prompting fund managers to switch their cash to shares in crosstown rival Credit Suisse.
UBS's decision to shrink its investment bank and focus more on private banking has changed the way investors look at the two stocks, giving them a clearer choice than in the past, when there was less to distinguish one from the other.
"Which Swiss bank strategy is the more successful one depends heavily on political and market developments, but in the short term I think Credit Suisse will thrive," said Basler Kantonalbank portfolio manager Andrea Guth.
"Investors take on more risk when markets pick up, and that would benefit Credit Suisse's larger investment banking arm in the coming months."
Like many Swiss-based fund managers, Basler Kantonalbank has typically held both banks. But the greater uncertainty surrounding UBS, which is in the first year of a three-year revamp, has prompted Guth to sell some of its shares and buy Credit Suisse.
In the longer term, non-Swiss investors say they are likely to hold shares in both to reflect the differing exposures they will have from one being more focused on investment banking, with the more variable rewards that brings.
"The capital level for UBS is more attractive, and the long-term rating should rise higher as it becomes more of a private bank," said Andrea Williams, manager of the Royal London European Income fund.
"However, in the short term, there are risks attached to deleveraging the balance sheet and reducing the size of the investment bank, and the question as to whether a smaller investment bank is viable in the long term with such a smaller global scale."
"You can probably own both in the portfolio, but in the medium term, I prefer Credit Suisse due to its exposure to wealth management and investment banking," she added.
Credit Suisse's 2012 dividend of 0.75 francs with 0.10 francs in cash and the rest in shares, equated to a dividend yield of 3.8 percent. UBS's payout of 0.15 francs per share yielded half that.
Credit Suisse has pledged to return to a higher, all-cash dividend when it has bolstered its capital, planned for mid-year, while UBS is targeting a 50 percent payout ratio from 2015.
Shares in Credit Suisse have risen more than 17 percent since the start of the year, outperforming a 6.8 percent increase in the European bank sector and UBS's 5.8 percent rise.
While fund managers are voting with their cash, equity analysts appear to be behind that trend, as UBS shares are still favoured with more "buy" recommendations than Credit Suisse. Five analysts recommend UBS as a "strong buy" and 15 as a "buy", while Credit Suisse won four "strong buy" backings and 12 buys, according to data compiled by Thomson Reuters.
Neither bank would comment for this story.
For years, the Zurich-based lenders have pursued near-identical strategies to cushion swings in investment banking profitability with lower-risk private banking business.
But UBS's greater focus on private banking has left it slightly more exposed to an international crackdown on tax evasion in Switzerland that is making the country less attractive to investors drawn by its banking secrecy.
Overall, Switzerland's $2 trillion finance industry is braced for what consultancy Zeb/Rolfes Schierenbeck Associates says could be 200 billion francs in withdrawals by 2016, out of 789 billion francs it believes sit, untaxed, in Swiss banks.
UBS has said up to 30 billion francs in funds from its European customers are at risk, while Credit Suisse has said its clients could pull out up to 35 billion francs.
A probe by German prosecutors into allegations UBS helped its wealthy citizens evade 204 million euros ($270 million) in taxes is unsettling German clients.
UBS is likely ultimately to settle these accusations, as Credit Suisse did in 2011 by coughing up 150 million euros.
The threat of civil lawsuits arising from UBS's involvement in an interest rate rigging scandal adds to the uncertainty.
UBS was fined $1.5 billion last year for its role in the manipulation of benchmark rates, while Credit Suisse says the financial impact from the affair is "not material".
While UBS has successfully targeted business from Asia and elsewhere to compensate for the loss of European private clients, some investors think it needs to shrink its private bank to reflect the new environment.
"UBS's gross margin is far from the target range, but they still think they can reach it. As a result, they are sticking with what I think is a bloated structure," said Urs Beck, a fund manager at Zuercher Kantonalbank, which has sold UBS and bought Credit Suisse shares.
While UBS is axing 10,000 jobs as part of its withdrawal from fixed income, firing private bankers is more difficult. If a favourite banker goes, loyal customers sometimes follow.
Instead, most private banks, including UBS, are slashing support staff and quietly easing out less productive advisors.
Meanwhile, tougher capital rules that make it harder to turn a profit from trading triggered UBS's decision to exit most fixed-income activities and marked the abandonment of a 10-year push to become a bulge-bracket investment bank.
Under the overhaul, UBS is planning to cut costs by 5.4 billion francs by 2015.
Credit Suisse, however, is also under pressure to shrink.
It needs to show it is on track to slash spending by 4.4 billion francs by 2015, and to cut risk-weighted assets (RWAs) to less than 900 billion francs by the end of 2013, from 924 billion francs at the end of last year.
The potential trap in this strategy is if financial markets fade, volumes shrink, and client activity dries up, leaving Credit Suisse fighting for less business at lower margins.
"The bank showed that it can make a good return on equity in its core investment banking businesses, but to improve its overall profitability, the bank has to meet its cost reduction target," Fitch Ratings analyst Christian Scarafia said.
On the face of it, Credit Suisse is closer to achieving a return on equity target (ROE) of 15 percent than UBS, which is aiming for a similar level by 2015. Credit Suisse has said its target will be achieved "over the cycle".
Credit Suisse had an ROE of 4.3 percent last year. UBS's ROE was a negative 5.2 percent, reflecting restructuring costs. However, direct comparisons are difficult because Credit Suisse's ratio excludes own debt losses, revamp costs and legal expenses.
"How the two progress in implementing their strategies will be decisive, and UBS is certainly far more in focus, simply because their restructuring is much more massive," said Basler Kantonalbank fund manager Guth.
(Reporting By Katharina Bart.; Additonal reporting by Oliver Hirt in Zurich and Sinead Cruise in London. Editing by Carmel Crimmins and Will Waterman)
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