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(Bloomberg Gadfly) -- After a bumper fourth quarter for U.S. investment banks, UBS Group AG kicked off earnings season in Europe with a whimper.
Optimists had hoped for a Trump-fueled bounce across the board. Instead, the Swiss bank largely missed out on the trading gains that benefited U.S. peers, while the firm's wealthy clients pulled money.
Pessimists might now call into question the bank's decision to scale back in fixed income and focus on serving rich clients now that interest rates are rising and President Donald Trump is preparing to slash red tape for Wall Street. UBS shares are down slightly over the past year -- trailing gains of 12 percent at Deutsche Bank AG and 26 percent at Barclays Plc.
CEO Sergio Ermotti deserves a bit more charity. The bank has a business model that makes sense, pays a dividend, has above-average capital ratios as well as a proven track record of cost cuts. He has time to cut expenses further or invest in other businesses.
Let's start with the bad news: As end-of-year party drinks go, the fourth quarter was more concentrated orange juice than Prosecco. The prized wealth management business derived scant benefit from the stock market's recent bounce and expectations of interest rate rises.
The unit reported 4.1 billion Swiss francs ($4.1 billion) of net outflows in the quarter, which UBS blamed on subdued sentiment and tax rules. Margins were also squeezed as low-cost passive products and regulation put fees under pressure across the industry. The gross margin fell to the lowest on record, according to Citigroup analysts.
UBS also missed out on the juiciest parts of the fixed-income trading rally, largely as a result of its post-crisis strategy. Management admitted the bank wasn't as well positioned as it had hoped: FICC revenue rose just 5 percent at UBS, according to Bernstein analysts, trailing the jumps of 31 to 36 percent at JPMorgan Chase & Co. and Citigroup Inc.
There was some good news, though. UBS's balance-sheet remains strong, with the leverage ratio above the minimum 3.53 percent required.
Wealth management in the U.S. enjoyed an increase in gross margin, and revenue grew more than expected to $2.1 billion. That appeared to justify Ermotti's recent upbeat talk of U.S. momentum -- even if he was forced to admit that clients were waiting for concrete action from the Trump administration before shifting into buy mode.
Wait-and-see, though, isn't much comfort for shareholders, and Ermotti's biggest problem for now is justifying UBS's premium valuation.
The bank trades at 1.1 times book value, compared with 0.4 at Deutsche Bank or 0.7 at Barclays. UBS is still a long way from achieving its long-term target of a 15 percent return on tangible equity. The measure stood at 7.2 percent in the quarter.
As other European banks raise capital, plan mergers or sell assets to increase profitability, UBS may come under pressure to take more strategic action to capture growth.
With a strong capital buffer and a profitable business model, Ermotti has time on his side to reduce costs or strike deals. A premium valuation isn't such a bad problem to have.
This column does not necessarily reflect the opinion of Bloomberg LP and its owners.
Lionel Laurent is a Bloomberg Gadfly columnist covering finance and markets. He previously worked at Reuters and Forbes.
(Corrects figure for wealth management unit's outflows in sixth paragraph.)
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