First, there is some good news for employees at Deutsche Bank's corporate and investment bank (CIB): the German bank accrued an additional €400m in compensation costs in the fourth quarter of 2017 versus the fourth quarter of 2016. During today's analyst call, Deutsche CFO James Von Moltke indicated that these additional expenses will go to the bank's (cash) bonus pool. The bad news is that €400m alone isn't much. The worst news is that it's starting to look like Deutsche will need to have a very hard think about the structure of its corporate and investment bank as 2018 progresses.
After last year's decision to scrap performance bonuses at Deutsche Bank and to replace them with retention bonuses for a select few, Deutsche has long been assuring employees at its CIB that compensation will be "normal" this year. This implies substantially higher spending on pay. On the basis of today's results, Deutsche's employees - who are only being told their bonuses in March - have reason to be concerned.
In 2015, the bonus pool at Deutsche Bank's investment bank was €1.5bn. For 2016, it was just €140m. If it wants bonuses to be normal for 2017, Deutsche has a big hole to fill.
Deutsche's newly released figures for compensation spending in the CIB would seem to suggest it's not filling the hole in by much at all. Even including the additional €400m bung in the fourth quarter, total compensation costs at Deutsche's corporate investment bank were up by only €300m net last year thanks to lower accruals in the preceding nine months. This extra €300m is partly reflective of an additional 122 front office staff and 1,726 support staff Deutsche hired in 2017. On a constant headcount basis, Deutsche's 2017 compensation bill for the investment bank was up by a mere €130m for 2017. That's not much when you consider the bonus shortfall is ten times that.
No one will know for sure what's going on with Deutsche Bank's bonus pool until the bank releases its compensation report (also in March). When it comes, the report may reveal some mitigating factors. Because bonuses were cut for 2016, Von Moltke said today that the compensation bill for 2017 contains fewer payments deferred from previous years: a higher proportion is related to pay for 2017 alone. Von Moltke said too that the bank is skewing bonuses in favour of cash this year to bring the bank "in line" with the rest of the market.
The real question regarding bonuses, however, is what Deutsche is doing with the €1.1bn it allocated to deferred retention bonuses in 2016. Although currently worth nothing at all, these are payable from 2020-2021 for material risk takers in the investment bank. As forward payments they haven't yet been expensed in Deutsche's acccounts. Von Moltke said today that Deutsche has no intention of paying similar retention packages for 2017, but it's conceivable that the bank could nonetheless allocate an additional €1.1bn in standard deferred bonuses to its bankers in the coming bonus round, payable from 2019 onwards. As such, they wouldn't show in the 2017 accounts, but added to the €400m bung they could yet take the bonus pool back to €1.5bn.
The bottom line is that although Deutsche CEO John Cryan said today that Deutsche has no intention of cutting compensation and "making people miserable" again this year, the size of the bank's bonus pool remains highly speculative.
Meanwhile, it seems increasingly likely that Deutsche is going to make some big cuts in CIB as this year progresses. Reflecting widespread skepticism over Deutsche's ability to cut costs, Von Moltke said today that the bank plans to get "very aggressive" on expense management in 2018, and that this is the bank's priority for the year. Von Moltke might want to start with the CIB: in the fourth quarter, expenses there were 127% of revenues.
Cryan said too that Deutsche intends to achieve a 10% return on equity across all its businesses and that the bank needs to "look at which businesses can actually achieve this," and which are simply "legacy" businesses that are no longer viable. The return on equity for the corporate and investment bank for was 1.4% for 2017.
As Deutsche looks hard at its CIB navel, some spending there is clearly non-negotiable. Compliance and regulatory spend is inviolable. So too is spending on technology and "digitisation." However, some areas of the sales and trading business look precarious. Although Deutsche just hired in ex-Goldman banker Peter Selman to run its global equities business, Cryan repeatedly held up equities as an example of a business in which margins have been eroded and activity has moved away from banks. Similarly, he said the "long dated high margin rates business" which banks milked at the start of "this century" has disappeared and "just isn't in existence any more." The message? Sales and trading businesses change and banks need to evolve along with them.
Deutsche insiders tell us the bank is giving itself until Q2 to see whether volumes come back to its markets business and lift margins, particularly in fixed income sales and trading. If they don't, a trigger may yet be pulled. Cryan said today that the trading year has started well, but only in relation to the miserable fourth quarter and that things are "a touch behind" on the start of 2017. Despite being open for business, Deutsche suffered "volume erosion" in the fourth quarter, said Cryan. The question now is whether this was cyclical or secular. Deutsche's traders need to hope it was the former.
How Deutsche says its sales and trading businesses did in the fourth quarter:
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