What’s The Story Behind Credit Suisse’s Negative Interest Rates For Deposits?

Credit Suisse (NYSE:CS) attracted a lot of unwarranted attention last week after it announced its decision to impose a negative interest rate on its banking clients. ^[1] While it is definitely not easy to wrap one’s head around the concept of a bank actually charging a customer for depositing money in the bank’s account, it must be noted that Credit Suisse’s move does not affect accounts held by individuals. In fact, only banks which park their money overnight with the Swiss banks will be affected by this rule as the negative interest rate is effective at a high threshold limit. ^[2] Interestingly, Credit Suisse’s bigger competitor UBS (NYSE:UBS) has been imposing an excess-cash charge on institutional clients since August 2011, but avoided the limelight by only informing the affected clients directly.

We maintain a $25 price estimate for Credit Suisse’s stock, which is about 10% higher than its current market price.

See our complete analysis of Credit Suisse here

Understanding Negative Interest Rates

Bank make money by first borrowing at a particular interest rate and then lending it out at a higher interest rate. The amount it earns depends on the difference between its borrowing and lending rates. Now consider a situation where lending rates decline drastically – as witnessed currently in major economies around the globe since 2008. In order to make any profit, the banks should be able to borrow at lower rates. That really does not leave a bank with much option if central banks pin interest rates at near-zero levels to stimulate the economy.

Things are worse for banks in countries viewed as tax havens – like Switzerland. Such banks receive a lot of overnight deposits from banks and large institutional clients who want to park their cash away from volatile currencies like the euro. And inadvertently, the Swiss banks have to pay an interest on this cash which they anyway do not gain from due to an overall low demand for loans.

The result is what we see now, the Swiss banks imposing a negative interest rate to deter big institutional clients from flooding them with useless cash deposits.

But Won’t The Swiss Banks Lose Customers?

They will surely lose a large part of the deposits from other banks and institutional clients affected by the new charge. But then that is what they want, to get rid of the burdensome cash deposits, which essentially drags down their net interest margins. And we can also be sure that not all the clients affected will jump ship because for some of them the need to keep some assets in the safe Swiss francs would outweigh the charges levied. Also, there are very few alternative currencies like the Norwegian Krone that these clients can switch to. ^[3]

Considering the fact that Credit Suisse can always get rid of the charges once it finds use for the extra cash, we believe the move is for the best in the near term. We expect an increase in the bank’s interest margins for institutional clients, something we capture in the chart above. You can see how an improvement will help Credit Suisse’s total value by making changes to the chart.

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1. Credit Suisse to penalise franc deposits, Financial Times, Dec 6 2012 [↩]
2. Swiss franc sinks on Credit Suisse move, Financial Times, Dec 6 2012 [↩]
3. Credit Suisse Leaves Krone With Nowhere to Hide: Nordic Credit, Bloomberg Businessweek, Dec 6 2012 [↩]