Quick Thoughts: Barclays – Numbers do not Support Negative View of the Investment Bank
I have rarely seen such a gap between strong management execution and negative market sentiment.
Barclays stock is down nearly 7% after the full-year conference call in London this morning; the headline earnings number had come out yesterday and been reasonably well-received so the sell-off is attributable to the call itself and is despite the fact management:
- delivered the required leverage ratio of 3% six-months ahead of schedule (driving down leverage exposure by GBP140bn versus the original target of GBP65-80bn and promising GBP60bn more by end-2015);
- emphasized management focus was “rotating” from meeting regulatory requirements on leverage to lifting returns through optimizing the balance sheet and driving down costs.
- re-affirmed the target for expenses of GBP16.8bn in 2015 (GBP17.5bn in 2014) backing this up with the announcement of job cuts across the businesses of 10-12,000 globally (against a current staff count of 140,000) and indicating there was some flex if the revenue environment showed ongoing structural weakness.
The issue is that investors appear not to believe Barclays can generate a satisfactory return in its investment bank with this sense perhaps aggravated by: (i) the bank’s decision increase the bonus pool 10% over last year so that the compensation-to-income ratio moved to 43% versus the long-run target of the mid-30s; and (ii) a notion that UK regulators will require Barclays to run the investment bank at less leverage US competitors (CET1 of 12% versus ~10% for US competitors). The sense that Barclays cannot compete effectively in investment banking echoes comments made to us among US investors.
The numbers do not support the negative view of the investment bank. The investment bank in 2013 generated a return-on-equity (adjusted for non-operating items) of ~8% even assuming a 12% CET1 ratio on fully-loaded CRDIV RWA of GBP222bn, and this was after a drag of ~3% from legacy activities which are being exited. In other words, allowing for the legacy businesses, Barclays is already achieving close to its cost-of-equity (which it pegs at 11.5%). This result is:
- despite a cyclically-depressed FICC market (and management suggested activity levels were better in January than 2013Q4);
- before the benefit of the announced job cuts (which include 220 managing directors and 600 director-level employees); and
- before balance-sheet optimization by CFO Tushar Morzaria who, as the former CFO of JPM’s corporate and investment bank and global controller of derivatives at Credit Suisse, has the right pedigree and has already demonstrated his effectiveness at Barclays through achieving the leverage ratio ahead of schedule.
We reiterate our price target of 350p (reflecting just over 1.2x tangible book value of 283p) and believe investors should take advantage of the current weakness to buy at 258p.