UBS will finally have to get a grip

FT.com

"If you see a Swiss banker jumping out of a window, follow him. There is sure to be a profit in it,” Voltaire is once said to have remarked. These days, no action by a Swiss banker should be taken on trust.

The SFR1.4 billion ($A1.46 billion) penalty levied on UBS for its organised rigging of official Libor interest rates would come as a shock at many banks. But UBS has brought a special quality of poor management – and worse – to investment banking for the past two decades. This is just another episode in a saga of ambition, incompetence and malfeasance.

The fact that UBS stands for nothing – it was reduced to a set of initials in the 1998 merger of Swiss Bank Corporation and Union Bank of Switzerland – strikes me as symbolic. Its investment bank, which caused most of its troubles, was built from a patchwork of banks – SG Warburg, Paine Webber, Dillon Read – and has always lacked a heart.

Again and again – in the 2008 financial crisis in which it lost $38 billion on credit derivatives; in the scandal over tax evasion by private bank clients that led to a $780 million fine; in its failure to stop Kweku Adoboli, the rogue trader who lost $2.3 billion – the bank's executives have been exposed as knowing little about what was going on below.

There is a broader lesson: that investment banking is a volatile business that demands strict management to prevent the kind of misbehaviour seen in the Libor affair. Instead, UBS led a group of banks that threw capital at it from the 1990s onwards without the expertise to control it.

To its credit, UBS reflected long and hard about the 2008 crisis, in which it had to be bailed out by the Swiss National Bank after its board failed to grasp that it had been loaded with subprime debt. It commissioned Tobias Straumann, a lecturer at the University of Zurich, to analyse why it had ignored the lurking financial disaster.

"Top management was too complacent, wrongly believing that everything was under control, given that numerous risk reports, internal audits and external reviews always ended in a positive conclusion,” Straumann concluded. "The bank did not lack risk consciousness; it lacked healthy mistrust, independent judgment and strength of leadership.”

As his report was published in October 2010, UBS's then-chairman, Kaspar Villiger, pledged that things had changed. Inside the investment bank, Villiger told shareholders, business units were being "closely monitored” and it had turned away from trading to advisory and client services. "The level of proprietary trading has, accordingly, been drastically reduced.”

Only a month later, Carsten Kengeter, the newly appointed chief executive of its investment bank, said that it needed to "reinstall the turbocharger” in equities, and the exchange traded funds desk where Adoboli worked was pushed to take more trading risk. Meanwhile, its traders kept on manipulating Libor until the year-end.

In other words, the leadership of a bank that had almost collapsed because its predecessors were out of touch held a thorough investigation, changed management, imposed new controls – and fell into exactly the same trap again. What it said, and perhaps believed, was happening within its investment bank bore little resemblance to reality.

That was not a new phenomenon. SBC took over UBS in 1998 after the latter was caught out in the Asian financial crisis and over-invested in the ill-fated hedge fund Long Term Capital Management. Its global ambitions have been a source of instability ever since.

The underlying problem was, as Straumann wrote, UBS did not want to accept the reality of its ambitions. It "was neither the sole, nor the first, bank to believe that it was possible to achieve exceptional balance sheet growth without having to undertake massive increases in risk exposure”.

It was hard enough for a well-established investment bank such as Goldman Sachs, with a long history of trading and a cohesive culture, to monitor and control its employees. UBS, which was trying to catch up with Wall Street as fast as it could by hiring outsiders and buying other banks, was out of its depth.

Given its repeated failure to abide by its own promises, the sensible response was to scale back. Under pressure from regulators and higher capital standards, it did that in October, announcing that it would slash its fixed-income division, the scene of many losses.

However, investment banking is expensive to enter, expensive to manage (since the employees siphon off much of the revenues) and expensive to quit. Over the next three years UBS wants to cut 10,000 jobs and to wind down billions of dollars in derivatives and bonds, a challenge which Jeremy Sigee, an analyst at Barclays, compares with "dismantling a nuclear power station while it is still in operation”.

Even if it does, UBS still needs to pull off something that has always defeated it – get a grip on the rest of the business. Axel Weber, its new chairman, the former president of the Bundesbank, says he wants to instil a similar public service ethos at UBS: "We need more company focus and team spirit.”

To judge by the Libor inquiry, there has been little of that in some parts of UBS. Instead, the bank permitted rampant individualism, with traders cajoling and bribing each other, and brokers from outside UBS, to fix the prices of official contracts according to what made them the most money.

Looking back, UBS does not strike me as a corrupt or fraudulent bank so much as a naive and careless one. It cut too many corners to compete in an industry in which extreme caution was required. Now, at last, it has to change its ways.

Copyright The Financial Times Limited 2012.