London: UBS faces a brutal shrinkage of its investment bank after dropping its ambition to be a major global player in favour of a plan to focus on its core wealthy clients.
The "one-stop shop" model that has defined the industry for the past two decades will allow some of its biggest rivals -- unencumbered by the Swiss bank's higher risk and capital costs -- to pick off its top corporate and hedge fund clients.
UBS is due to unveil how it plans to scale back in November, saying its wants more reliable returns and less complexity, as it seeks to recover from a $2.3 billion rogue trading scandal that forced its head Oswald Gruebel to step down on Saturday.
Some in the industry think this retrenchment will result in the bank rapidly losing the skills that are crucial to survive.
"Nobody has done this before, nobody has retrenched their investment bank in this fashion, and nobody quite knows the knock-on effect on other businesses," said Chris Wheeler, banking analyst at Mediobanca.
Regulators are forcing banks to sharply reduce the risk in their businesses, but players such as J.P. Morgan and Goldman Sachs which have emerged strongly from the crisis have not given up their quest to top the league tables.
Under previous management, UBS had built its investment bank around the 1995 acquisition of London merchant bank S.G. Warbug Plc and that of U.S. investment bank Dillon, Read & Co. in 1997. It is now reversing that and will focus on its wealth management business, serving the needs of its core rich clients.
UBS ranks ninth in the league table for global M&A so far this year, with Goldman Sachs, JP Morgan and Morgan Stanley leading. However, in Asia, where it has been agressively expanding, it was still third.
The bank insists it is sticking to its "integrated bank" business model which marries an investment bank with a private banking business for rich clients, though the investment bank will shrink in favour of wealth management.
"I don't think we have an ambition to be top-five in terms of scale and size," its new Chief Executive Sergio Ermotti said hours after being named its interim CEO on Saturday. "We have an ambition to be top-three in certain product areas."
Ermotti singled out foreign exchange trading and equities as areas UBS was strong in. But outsiders say the bank may be forced to give up more than it now realises.
"I don't think simply accelerating the rationalisation plan is enough," said Matthew Czepliewicz, an equity research analyst at Collins Stewart in London.
"If they are going to pull back capital from the investment bank and redeploy it over the longer term to wealth management then it will leave them in a better place, but so far they haven't answered those questions," he said.
Even if UBS decided to spin off its investment bank, it would have a hard time funding it as a stand-alone unit -- an idea mooted by some in the market -- because it would have no access to increasingly scarce depositor cash.
Others have suggested a management buy-out, possibly reviving the Warburg name, and possibly on a small scale. But this would have similar funding problems.
UBS denies it is looking at either of these options.
With shrinking its investment bank the only remaining option, it is key for UBS how much capital each area consumes under tougher new rules under the Basel III capital accord designed to protect depositors from investment banking losses.
The capital intensity of the business is underlined by the fact that investment bank accounted for 60 percent of risk-weighted assets (RWA) at UBS at the end of last year, but contributed just 29 percent of profit.
UBS can afford to stay in Merger and Acquisitions (M&A), which uses relatively little capital, and will also need to keep its equity capital markets platform, analysts said, though it will need to cut back the more exotic equity derivatives.
The deepest cuts are likely on the trading floor.
"UBS is a leading equities player and it has pockets of forex in which it's strong, but it's nowhere really compared to the others in fixed income and commodities and yet it has the cost base of a top three player," said Simon Maughan, head of trading for Europe at MF Global.
Fixed income and commodities -- which sit alongside currencies within the key FICC area -- are likely to be the areas hit hardest, analysts said.
Rival Deutsche Bank recently said its investment bank had identified 64 areas as important for its business, and UBS may have a similar list to go through.
UBS is expected to add to the 3,500 job cuts it announced last month. About half of those were earmarked for its investment bank, representing about 10 percent of staff.
Such uncertainty means it may have a hard time retaining those bankers who it regards as most valuable.
"It (the retrenchment) will be deep, but it's not clear if they will go further or even try to postpone it. It's tricky as you are dealing with a lot of jobs, and morale at the bank is already at rock bottom," Mediobanca's Wheeler added.
One UBS banker, speaking on the condition of anonymity said that guaranteed bonuses could well dissuade those wanting to move to smaller boutique banks, but that it would not be enough to retain bankers offered jobs by larger peers.