The changing face of wealth management
Volatile markets, pressure on margins and increasing regulation are leading the cross-border business to become ever more sophisticated. To succeed in offshore banking, the resources and innovative power of individual banks will be crucial.
New understanding of private sphere
The Swiss financial center has undergone a strategic turnaround as a result of considerable pressure. Our country is adapting to international standards when dealing with tax offenses, and by introducing a withholding tax Switzerland is building a bridge to legality for the clients affected. Banking secrecy for the purposes of avoiding tax has disappeared. For us banks there is nothing regrettable about this development: It is the uncontested right of a state to tax its citizens and it is the duty of every citizen to pay their taxes.
Nevertheless, protecting the privacy of individuals, including their financial privacy, is without doubt a legitimate need. Swiss banks will resolutely oppose any attempts to further undermine privacy.
No prospect of a bull market
Furthermore, the financial crisis is contributing to the epochal change in private banking. Clients are still uncertain and are holding up to 40% of their assets in cash. They are critically examining investment products and prices. Since 2009 investors have been concerned about the lack of a stable upward trend in the markets. Investors are closely observing the three pillars of the global economy, each characterized by different levels of stability: North America, Europe and China. The situation is likely to remain the same for a while yet, making it even more difficult for investors to get returns.
Last, but not least, many new and costly regulations are weighing on financial centers. To implement the withholding tax, there will be stricter product and distribution rules. There are also new capital, liquidity and risk management provisions to consider, the US FATCA (Foreign Account Tax Compliance Act), and strict guidelines for dealing with foreign clients.
Declining assets and earnings
The payment of withholding tax, voluntary disclosures to the tax authorities and the pressure on banking secrecy have led to major outflows of assets from Switzerland. We project that between CHF 12 billion and CHF 30 billion will leave UBS alone. These assets are headed for Western Europe. The figure for the financial center as a whole will be many times higher. Hundreds of billions of francs will leave Switzerland, resulting in lost earnings totaling several billion francs. This loss will have to be recouped through cost-cutting, efficiency gains or new income. It is obvious that the relative share of the financial sector in Switzerland's gross domestic product will decline and the country's government will lose tax revenues as a result of direct and indirect effects.
Switzerland's private banks are handling these challenges in different ways. To the extent their investment opportunities will permit, the larger banks are strengthening their presence in the growth markets of Asia, Latin America, the Middle East and in Europe's biggest economies. Smaller private banks that do not possess such investment strength focus instead on establishing niches in the offshore business.
Pressure on margins
In light of this, margins in the offshore business will tend to approximate those of onshore banking, where gross margins are currently well below 1%. Major banks with direct access to the capital markets will be able to better cope with this situation.
When it comes to foreign clients in Switzerland, banks will shift their focus toward very wealthy clients. We expect most clients with tax issues to make a clean break of it and to settle their tax liabilities. Smaller investors will probably weigh up whether an account in Switzerland still makes sense. But for the very wealthy clients and family offices that value the financial strength, good infrastructure and competence of Swiss banks and the broad range of investment solutions they provide, our country will definitely remain a preferred financial center as long as the operating conditions remain favorable.
The withholding tax makes it easier to work with the most demanding clientele in both their countries of residence and in the global financial markets. A prerequisite for this is that banks must make targeted investments in developing platforms that allow country-specific income reporting for tax purposes. However, the gross margin for this demanding, often very wealthy client group is only about half as high as that for private clients of average wealth. Offering credible products that also carry a good price tag will therefore be decisive in determining the future of banks.
At the same time, costs are rising for banks in Switzerland. Implementation of the withholding tax is expensive. According to estimates, it will cost between 400 million and one billion francs. In addition, banks must comply with the regulatory requirements mentioned above, and this is likely to push many banks - particularly smaller ones - to the very brink of their capacity. Moreover, serving foreign clients out of Switzerland calls for exact specific country rules and the staff must be trained accordingly. This means that a client advisor can only seriously serve clients of a limited number of nationalities.
All these factors will lead to consolidation among private banks. Although this topic has been discussed in the market for some time now, not much has actually been done. It would be surprising, however, if structural adjustments are not made soon, particularly since the markets today are not providing enough support to generate the earnings banks need to be profitable.
Moreover, the barriers to market entry are becoming higher for foreign competitors and newly founded companies that would like to take advantage of the benefits offered by Switzerland. It is likely that the international universal banks will spin off their private banking units in Switzerland unless they reach critical mass soon.
New wealth management
Traditional private banking, which focuses mainly on cultivating relationships, is a thing of the past. Besides advisory competence, at least an equal measure of well-founded financial and market knowledge is required. This know-how is increasingly becoming a competitive factor and differentiating feature. In order to remain attractive to wealthy clients and to grow profitably in the long term, dynamic investment management that is close to the market and focused on investment success must be combined with Swiss private banking excellence. The road is a long one, and a paradigm shift within the sector is necessary.
Switzerland's banks internationalized very early on. The Swiss financial center is well-known for its highly qualified staff. These factors put Switzerland in a good starting position in a harsh international competitive setting. At the same time, the new climate in the financial center and the sluggish markets mean that asset managers have to take the return on investments for clients much more seriously. It is time to give the profession of client advising the merit it deserves by awarding client advisors with a qualification recognized by the state .
The financial crisis has taught us that long-term thinking is what matters. Banks would be well advised to invest even more in their investment competence and in structured investment processes. Attracting new deposits and selling a solution should be the logical consequence of a factual analysis of a client’s requirements, portfolio and risks. They should not be driven by the management team’s sales targets. The trick here is not to deny clients profitable opportunities in these highly volatile markets.
Satisfied and well-supported clients are willing to return to the markets and to pay an appropriate fee for a transparent service. In the medium term, banks will want to introduce new pricing models that are tied more to returns. Wealth management that is truly geared to the client will allow private banks to maintain their earnings strength and, provided that they receive a slight boost from the markets, even increase it. This is in the interests of both clients and shareholders. Market pressure moving the sector in the right direction.