Barclays challenges overshadow trading win

CEO Jes Staley opts for caution despite yet another vindication of his strategy

More apparent vindication for Jes Staley’s gambit of retaining a full-service investment bank to enable exposure to markets windfalls like the one that underpinned giant U.S. banks in the third quarter. Barclays, now the only large UK-domiciled lender with a Wall Street franchise on par with JPMorgan’s, reported a 17% income rise in the Corporate & Investment Bank division on the back of surprisingly robust bond and equity trading. CEO Staley called the unit’s quarterly performance in equity, debt capital markets and merger advisor, its best ever.

It’s difficult to downplay the sentiment, at least. The bank now has four consecutive trading beats in the bag. What’s more, the 15% rise in fixed income, currencies and commodity  (FICC) trading boosted the Markets unit’s income 13%, crushing the average 6.4% trading income advance reported by key Wall Street rivals.

The whole point of maintaining a strong investment banking (IB) footprint is that it’s supposed to be core to a transatlantic lending franchise, bringing synergistic benefits that would not be possible with a lighter approach to IB. The problem some investors have had with Staley’s strategy, including one Edward Bramson, activist, now seen off, was that Barclays’ IB hogs resources (around 50% of risk-weighted assets) whilst delivering mediocre returns. The Investment Bank’s key measure of returns, Return on Tangible Equity (RoTE) is now much improved from 2017’s 2.2%. IB RoTE ticked down to 9.3% in Q3, vs. Q2 2018’s 9.7%. But it remains close to the assumed cost of capital of around 10%.

The big question then – and it’s been the big question for successive quarters – concerns whether such improvements are sustainable. Investors’ historic view has been sceptical. Lloyds Banking Group’s balance is sheet is far smaller than Barclays’, yet LBG has a larger market cap. Barclay’s also trades at a discount to book value of some 40% relative to closely matched EU and North American rivals. There’s a sense that the Barclays story remains too complex to fully get on board with. Key performance details from the quarter moderate any notion that it was a rip-roaring one:

• Broader Barclays International profit, excluding litigation and conduct charges still fell 4%, year-on-year
• Credit card & payment returns joined CIB with declines
• Equity trading income actually fell too; -11%, on what looks like a quarter-specific drop in derivatives activity
• Barclays stake in Tradeweb added a £126m one-off gain to Markets (similar to that which U.S. stakeholder banks booked a couple of quarters ago)
• The removal of Barclays’ Risk Weighted Assets floor following discussions with regulators, instantly removed £14bn in RWA. That inorganically lifted the ‘core capital’ CET1 ratio 60 basis points to 13.4%

Meanwhile, Jes Staley, is most cautious about Brexit exposed Barclays UK, where RoTE slid to 17.2% from the 18.9% a year ago. The “unquestionably more challenging” environment than a year ago, particularly “uncertainty around the UK. economy and the interest rate environment,” are behind Barclays’ assessment that 2019 and 2020 targets are now “more challenging” to achieve. That’s almost inviting investors to accept the 10% group return target by next year is out of reach. Given that it’s the key to sustainable profits, despite authentic progress, Barclays’ slow-to-no-growth prospects and discount will remain.

The stock rose as much as 3% initially on Friday though eventually trimmed that move to less than 1%. Over the year, BARC stock is now close to closing the gap to the best-performing shares of large European lenders. The group’s comments and a careful look at progress over the last 9 months strongly suggest that outperformance by the stock into the year end is unlikely.

Normalised: Big European bank stocks – year to date

Source: Bloomberg/City Index