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HSBC’s strategy review has given its detractors plenty of ammunition. By announcing a $130 billion risk-weighted-asset reduction plan in the global banking and markets division (GBM), it cemented a view, held by rival bankers, that it lacks the commitment, balance-sheet and product capability to be considered a truly full-service emerging market investment bank to rival Citi.
The move also emboldens critics of complex universal-banking operations, which argue banks such as HSBC consistently over-sell the benefits of scale, given regulatory costs and capital inefficiencies. Since 2011, HSBC has been forced to enact 78 business disposals, including 15 full country exits, with retail operations in Turkey and Brazil the latest announced closures.
Rival bankers downplayed HSBC’s investment-banking clout during the Euromoney awards’ pitches, and argued its plan to sell strategic events-driven advice to its flow clients was now in tatters.
However, to suggest there will be a pronounced reduction in HSBC’s capital allocation to investment banking, akin to its retrenching peers – with a downsized secondary sales and trading platform to support events-driven credit and equities mandates – is to misunderstand its business model.
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HSBC has a wholesale financing-led platform to capture growing cross-border capital and trade flows amid strengthening demand for capital products by unlevered emerging market corporate clients, in particular. Rather than divesting, HSBC is gambling that growing its revenue sources will meet ROE targets, thanks to a targeted adjustment of its balance sheet.
HSBC will offset its GBM RWA retrenchment by reinvesting $180 billion-$230 billion in higher-returning businesses in Asia. It still plans to grow its FX and DCM capabilities globally, especially its emerging Asia credit platform, as well as its M&A and ECM business, with the bank increasing its market share in the latter two business streams every year for the past four.
In announced emerging market M&A between May 1 2014 and April 30 2015, HSBC is in sixth position, for example. HSBC will also seek to carve out its corporate operations in any deal to sell off its Brazil unit, given the health of its GBM revenues in Latin America’s largest economy. HSBC also plans to increase its export- and project-financing capacity in Asia and its complex risk advisory business.
The $40 billion RWA reduction plan in Spencer Lake’s capital-financing group – which comprises its debt, equity and M&A business – over the next three years could be accomplished relatively smoothly without imperilling mandates. Some 60% of this will be achieved from improving data models, and the rest will come via securitization and selling loans, in particular, those backed by project and export risk.
Crucially, most of these loans are at, or above, par and HSBC is already in discussions with real money fixed income buyers on 25 such transactions. Given the growth of local capital markets, this shift to maximize the efficiency of its balance sheet shouldn’t undermine client relationships, given the health of local-bank liquidity, from Mexico to Saudi Arabia, and the expansion of the project-finance bond market.
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The execution challenge in reducing its GBM-related RWAs, outside the capital-financing group, is more acute, given the prospect of the long-dated derivatives book and legacy positions being offloaded in a rising rate and illiquid environment. Still, HSBC has a captive network of 8,000 corporate clients that most banks would kill for, given the investment-banking opportunity. What’s more, there is evidence that its bid to become more client-centric, by grabbing strategic GBM mandates from blue-chip commercial clients, is paying off.
HSBC acted in March last year as financial adviser for Beijing Capital Group, a CMB customer, in its successful $800 million bid for Australia’s Transpacific Industries Group, a waste management firm. The fixed-income division of the capital financing group has enjoyed a 4.4% compound annual growth in recent years. Meanwhile, its financing-led work for Li Ka Shing over the years has generated bumper ECM and M&A revenues, accounting for HSBC’s mandate to advise Hong Kong’s Hutchinson on its £10.3 billion acquisition of O2, for example.
HSBC’s China business remains the envy of its peers. Over the past year, it has become the dominant player in the Shanghai-Hong Kong Stock Connect, with a comprehensive front-to-back operation, providing custody to clearing. It already makes $1.7 billion from its RMB internationalization business and that is set to grow to $2.5 billion by 2017. What’s more, HSBC is the only foreign bank with a growth strategy in the Pearl River Delta (PRD), the largest metropolis in the world with a population of over 42 million, and which will soon be linked to Hong Kong. It will increase its project-finance lending capacity – even as the credit cycle on mainland China sours amid slower growth and over-capacity – and build a retail and wealth-management arm in the region to generate $1 billion of pre-tax PRD-related profit in the coming years.
HSBC is probably over-estimating the equity-return opportunity in Asia in the short term, given slowing trade and credit growth, tight wholesale-banking margins, investment-banking over-capacity, and China’s disorderly economic adjustment. It could continue to ignite shareholder ire and be forced to enact bolder RWA cuts. But, for all that, it may turn out to be cannily positioned for the long term.