Barclays: At the Nadir
Barclays has lost 20% of its value since the beginning of the year as a result of two factors which will have no enduring impact: (i) a 10% increase in the 2013 bonus pool; and (ii) disappointing year-to-date results for the FICC business. We believe the bank will achieve its target for a return on equity equal to the 11.5% estimate for cost-of-equity by 2016, and see this as consistent with a 20% stock-price premium to forward tangible book value of GBP3.00 (at end-2014) rather than today’s 20% discount to current tangible book value of GBP2.83.
- FICC: Client activity is running meaningfully below normal levels as limited volatility at the short-end of the curve reduces the need to reposition portfolios, as investors rethink strategy for the intermediate and long end of the curve after the Fed’s taper announcement in December, and most recently because of geo-political risk. Even if 2013Q4 industry-wide revenues are down 15-20% (as suggested by recent comments from JPM and C), full-year revenues will likely be flat-to-up, particularly given the easy compares of 2013H2, as client activity returns. There will be further improvement in activity and results in 2015 as short rates back up and the curve steepens.
- Compensation: Barclays is not going to make its targets with the comp-income ratio for the investment bank at the 2013 level of 43%. CFO Tushar Morzaria has committed to reducing the comp-income ratio (“We are committed to bringing it down and I know we will. We have to bring comp down”) and to a broader commitment to reduce firm-wide expenses to GBP16.8bn in 2016 (“Standing up here and having credibility, I have to find GBP2billion of reduction”).
The bigger picture is that Barclays has a portfolio of attractive businesses with 25% of capital in UK branch banking and Barclaycard (generating returns well-above the cost of equity) and over one-third of capital in the investment bank (which, given normalized FICC activity and lower comp-to-income ratio generates at least the cost of equity).
However, normalized firm-wide returns face a 2% drag from Europe as a legacy of the firm’s pre-crisis “dash for growth” (so that Europe retail banking lost near GBP1 billion in 2013, for example), and Barclays is responding by reducing the associated balance sheet and distribution infrastructure (including, for example, halving the number of branches in Spain, Italy, and France). We expect Europe breakeven by 2015 to be an important driver of improved firm-wide returns.