Mr Cool

NOT long after the US subprime crisis first hit the headlines in 2007, the venerable Swiss bank UBS found itself in a near-death situation. It had racked up losses which were eventually to total about 50 billion euros (S$76.8 billion), mostly the result of its investment banking activities in the United States. An exodus of senior management followed, including the then CEO Peter Wuffli, the chairman Marcel Ospel and later, both their successors. In December 2007, a US$9.7 billion lifeline was provided by Singapore's Government Investment Corporation (GIC) - which remains UBS' single largest shareholder. The Swiss government also provided bailouts.

There were scandals too, including one related to a rogue trader in UBS' London office who in 2011 was found to have single-handedly lost US$2.3 billion, a dispute with the US tax authorities over US citizen accountholders and fines relating to the rigging of forex rates and Libor. The share price crumbled from a high of close to 63 Swiss francs in June 2007 to a low of 7.6 Swiss francs in March 2009.

The bank's turnaround since the crisis has largely been credited to the Swiss-Italian banker Sergio Ermotti who took over as CEO in November 2011. In banking circles, they call him "Mr Cool" - partly for his movie star looks and for the methodical manner in which he went about cleaning up the mess at UBS, post-crisis.

One of his first actions, together with the bank's chairman Axel Weber and his team, was to do a comprehensive review of operations, which led to a dramatic downsizing of investment banking operations - a front-loaded strategy later emulated by other banks - that entailed around 10,000 job cuts, the near-elimination of proprietary trading and a refocusing on client-related activities such as M&A and advisory work. In an interview with BT in 2012, Mr Weber had said: "Some years ago our objective was to be among the world's top three global investment banks. That's not our objective any more."

The overriding goal was to concentrate on UBS' traditional strength, the crown jewel of its business - wealth management, where it is the world's number one. The strategy is paying off. Today, UBS is one of the world's best capitalised banks with a core Tier 1 capital ratio of 14 per cent and has been consistently profitable since 2012. Besides its wealth management business, it retains a significant investment bank and asset management franchise, especially in Asia.

Looking back to the tumultuous years following the subprime crisis, 56-year-old Mr Ermotti is modest about his role. "In a nutshell, I inherited a situation which was starting to be fixed and was partly already fixed," he says, in a private meeting room at UBS' offices in Raffles Quay - the same room in which he was offered the top job almost exactly five years earlier.

"I noticed that we had lost around 10-12 per cent of clients assets during the crisis - so around 200 billion Swiss francs (S$285 billion) - but only 2 per cent of clients had closed their accounts. So we were still left with 1.6-1.7 trillion Swiss francs of clients' assets. After going through what people called a near-death situation, it was striking that so many clients were still supportive. So I knew we had a good foundation. I knew we also had a very good basis in the investment bank - areas of excellence in equities, forex and origination. Overall, we had a good business. We just needed to focus on what we were good at, rather than trying to be something we would never be."

There were three main motivating forces that drove UBS' transformation, according to Mr Ermotti. First, there was an "unacceptable situation" in terms of returns to shareholders, who were unlikely to tolerate the status quo. A lot of value had been destroyed, and it was clear that fixing this would need significant changes.

Second, UBS realised that the post-crisis regulatory environment would be much tougher, in terms of capital requirements and constraints on leverage. This also called for change. And third, there was a realisation that post-crisis, there would be fewer macroeconomic tailwinds. "We knew we would not get much help from the market," says Mr Ermotti - which further strengthened the case for restructuring.

Despite the renewed focus on shareholder value, UBS shareholders have not had much to cheer. Although it has recovered from post-crisis lows, the share price continues to languish at around 14 Swiss francs - about the same level as the 2009 average.

Part of what is holding back the share price, according to Mr Ermotti, is the de-rating of the banking industry in the face of a weak macro environment and tougher regulations. However, he adds that UBS still trades at a premium compared to other international banks.

"We are one of the few good banks that trade above tangible book value,'' he says. "Could we be trading a little bit higher? Maybe yes. But there is a limit. If our main competition trades at 0.6 or 0.7 to tangible book and we trade at 1.1, there is a point at which people will ask how much premium they want to attach to UBS versus the others. And that's been quite a consistent story if you look at the last 24 months, we have sometimes been at 21, 22 Swiss francs. In better times we have always traded at a premium - a substantial premium - to our competitors.''

He also sees some potential upside. "I can't change certain dynamics, which I call the beta dynamics of our business. If interest rates rise, clients' risk appetite picks up, and if a lot of other external factors that we cannot control become at least neutral, if not positive, then you will see the stock price performing better.''

Near-zero interest rates in Europe and the US as well as negative interest rates in UBS' home market of Switzerland (where it is the biggest retail bank) has impacted the bank "massively", says Mr Ermotti - "the entire banking system and our bank in particular".

"In some cases, we are losing money out of having clients sitting on deposits. In addition to that, new regulations require us to hold a significant amount of high-quality liquid assets and therefore consume capital. So there's a double whammy. On one side, a lack of revenue - and over time, in some cases - revenue loss. And on the other side, capital consumption."

He explains the dilemma that negative interest rates creates for UBS which, like other banks, tries to absorb the costs of such rates rather than passing them on to customers.

"In some cases we have to ask ourselves the absurd question of whether we want more cash. Do we want clients to bring money to us? Because if you are a client and you come to us saying: 'we like your bank because you are well-capitalised, etc, but I want my money just to stay with you,' then for us that would mean just taking your money and losing money. In the past, we could say 'yes fine, you can leave the money with us and we can make some money out of deposits, and by redeploying the money.' It's quite absurd for a bank to think about whether it really wants more deposits. What's more, our clients are becoming very risk-adverse. So, considering what is going on in the macro environment and geopolitically, we are talking about hundreds of billions in cash just sitting there, trying to avoid being exposed to market volatility and market risks."

A key uncertainty facing UBS - along with other international banks with a large presence in London - is what will happen after Britain leaves the European Union, which it voted to do in June.

"If the UK economy doesn't get better and if the negotiations between the EU and the UK translate into the UK having no passporting for financial services, then I would say that 20 to 30 per cent of the 5,000 people we have in London will probably need to be moved. Because we won't be able to serve clients in the continent, or in certain countries on the continent, without that kind of re-arrangement of resources. This is something that every bank will need to do - it's not unique to us."

In terms of regulatory headwinds, UBS (together with several other banks) still faces potential fines from the US Department of Justice relating to its activities in the area of mortgage-backed securities during the financial crisis. Mr Ermotti does not want to comment on this - yet. "I always say that this is one area where nobody can predict the outcome and predict the timing. So I am not going to start going into that kind of prediction right now because I am not in control of the situation. I think where possible and reasonable, we have always taken responsibilities when responsibilities have to be taken. But also, we want to make sure that there is proper fact finding."

UBS is also among banks that may face fines in Hong Kong in connection with IPOs that it sponsored. There are other challenges. Notably, despite new money pouring in, UBS' wealth management business is facing margin pressures because of risk aversion and low transaction volumes.

On the bright side, the bank has been very successful in Asia - both in wealth management and in its equity capital markets business. Is there something about Asia - perhaps the rapid creation of new wealth, or the preference for equity trading - that makes it a particularly good fit for UBS?

"Well, we've had more than 50 years of presence in Asia,'' says Mr Ermotti (UBS set up its first Asian office in 1964, in Hong Kong). "You need strategic vision, and my predecessors over the years have had that vision and made investments in Asia." The DNA of UBS was also well suited to Asian markets. Apart from its strength in equities, its wealth management franchise and investment bank have also created a unique platform. "The reason why we are good in Asia is because we have a mix of dynamics here."

Currently, UBS is expanding rapidly in China, where it already has a much coveted broking licence, has opened a branch in Shanghai this year and plans to double its staff strength over the next five years. It plans to simultaneously provide its global platform to Chinese clients and offer its global clients access to investment in Chinese assets. Developing the China market will be a slow process, he says. "In a country where wealth management is not known and you start with new licences, it is not like in 24 months you can make a big difference. Only in five to 10 years will you start to see a difference," says Mr Ermotti.

He acknowledges that he is concerned by China's large corporate and mortgage debt. But he is still positive about what he calls China's "fundamental story". "Even if they grow by mid-single digits over the next 10-20 years, they are going to grow enormously," he says. "And they are going to focus on a different kind of growth. For sure, there's excess leverage, and the need to make some changes, but they have the luxury of not having a lot of external debt. They have a lot of things that they can control and even if they have a slowdown for a couple of years, it won't change the fundamental story."

Finally, we talk about service, which in wealth management is arguably more critical than in other forms of banking. "We are the number one wealth management franchise in the world - that's not an opinion, it's a fact. And it is the result of service," says Mr Ermotti.

He points out that service partly involves providing products, advisory services and investment tools - some of them sourced from outside UBS - "we don't pretend we can do everything on our own". But what matters above all is the human touch, which he suggests may help explain UBS' high client retention during the global financial crisis. "You can argue that the human touch is important in almost every business. But in our business, it is very, very important because you are talking about people's wealth. You have a lot of insights into families and personal insights into people when you manage their wealth.''

"I am convinced that over time, that will stay at the centre of our value proposition. Of course, technology will change the dynamics of how we interact with clients - it will make us more knowledgeable, more direct, more productive and more efficient. But that will never take away the importance of interaction with people, of advice, of personal relationships.''

Despite having engineered UBS' turnaround, Mr Ermotti is far from finished. "The job is never going to be finished,'' he says. "In the short term, we still have to demonstrate the sustainability of what we have been doing over the last few years. At the end of the day, you're only as good as your last quarter."

SERGIO ERMOTTI

Group CEO, UBS AG

Born May 11, 1960, Lugano, Switzerland

Education

Swiss Federal Banking Certified Expert

Advanced Management Programme, Oxford University

Career highlights

1985-87 Vice-president, Citibank, Zurich

1987 Joined Merrill Lynch, held several positions within equity derivatives and capital markets

2001-2003 Co-head, global equity markets, Merrill Lynch

2005 Joined Unicredit as head of markets and investment banking

2007 to 2010 Group deputy CEO, UniCredit, Milan

April 2011 Joined group executive board, UBS

April to November 2011 CEO of UBS Group for Europe, Middle East and Africa "The job is never going to be finished.

At the end of the day, you're only as good as your last quarter."