Technology, regulation, the end of bank secrecy and negative interest rates are conspiring to give Swiss bank CEOs a headache, but there are some reasons for optimism, a study shows.

A recent EY study of Switzerland’s banking industry showed 87 per cent of firms expect upheavals, with the vast majority expecting a squeeze on returns, highlighting why data shows a declining total number of lenders in the Alpine state.

EY said that 92 per cent of 120 banks it questioned for its Bank Barometer 2017 report said they expect returns to continue falling. So far, they are responding by trying to boost efficiency and cut costs, but not changing their strategy and business models.

The report comes at a time when Switzerland, once home to more than 300 banks, has seen that number shrink. According to the website of the Swiss Bankers Association, there were 266 banks operating in the country at the end of 2015, down from 275 a year earlier. The demise of Swiss bank secrecy, negative interest rates, higher regulatory costs and technology changes have seen a number of banks merge to capture efficiency gains.

The EY report said that despite structural changes and problems with profitability, most Swiss banks are still positive about their future business. In total, 80 per cent (compared with 81 per cent last year) say they have achieved good operating results over the past twelve months, and 68 per cent (compared to 75 per cent last year) expect good results this year. 

“Given the many and varied challenges - some of them fundamental - that the banking sector in Switzerland is facing, the largely positive assessment expressed by Swiss banks comes as a surprise,” Patrick Schwaller, EY Switzerland’s managing partner for assurance and financial services, said. “So far, banks are showing themselves to be quite resilient, but there is evidence of a disturbing opposite trend: of the banks who responded to the study, one-third take an increasingly gloomy view of the way their business is going to develop, and some of them see serious losses ahead."

An issue for banks in recent years has been low, and now negative, Swiss interest rates. Some 95 per cent of them see the persistence of these rates as having serious consequences. They see profitability going down, the prospect of long-term problems for pension providers and the risk of bubbles in several asset classes rising. 

“It’s worth noting that negative interest rates not only reduce revenue potential but also distort the steering of capital, which is a factor in production. That can make for misallocations of capital and liquidity - and the consequences of that cannot as yet be projected,” said Olaf Toepfer, EY Switzerland’s head of banking.

The rollout of negative interest rates in private client business is planned by 35 per cent of Swiss banks (last year’s figure was 30 per cent), but they envisage doing this only on credit balances above a certain level or in the event of the Swiss National Bank cutting interest rates still further. 

This course of action is already being contemplated by 60 per cent of the cantonal banks (20 per cent in the previous year’s study).

“So far, only a few banks in Switzerland have brought in negative interest rates in private client business. One reason for their holding back on this is the fear that negative interest rates would prompt clients to take their money elsewhere. But the evidence that the cantonal banks are changing their way of thinking about this shows that many banks are less and less willing to bear the additional costs resulting from negative interest rates on their own,” Schwaller said.

Digitalisation, meanwhile, is the driver for structural change. To date, though, only a minority of Swiss banks have a clear view of its full potential. Some 64 per cent of them (67 per cent in the previous study) think their core business will stay as it is and see digitalisation primarily as an additional sales channel.

“What we’re seeing now is only the tip of the iceberg: digitalization will have a profound impact on strategies, business models and business processes. It won’t just add to distribution channels, but will present fundamental challenges as regards the banks’ interactions with their clients and the way they cooperate in value-generating networks. Digitalisation is already making it easier for competitors from outside the sector to get into the market; customer loyalty has been diminishing for years, and digitalisation may well make them even less inclined to stay with a particular bank,” Toepfer said.

Outside competition
Competitors from outside the banking sector are beginning to put Swiss banks under pressure. More than two-thirds of the banks studied see their position in the market at risk from new technologies, IT companies and the services offered by non-bank providers.

“For a long time, the banks didn’t take the risk of competition from outside seriously. The fact of the matter, though, is that providers who are not banks are starting to come onto the market and to compete against banks in offering selected elements of the value chain. That’s made easier for them by the pace of technological change and the regulatory requirements expected to be applied to Open Banking. That makes competition tougher and pushes margins down,” Schwaller said.

Layoffs and branch closures
The problems with both profitability and the onset of structural change are obliging banks to concentrate even more on costs and efficiency. Those that contributed to the study see these issues as the most important in the current year, having for a long time past put risk and regulation at the top of their priority lists. 

The ways in which they are attempting to improve the situation include such traditional approaches as cutting staff numbers and pruning the branch network: 15 per cent of banks (as against 11 per cent last year) are planning to reduce headcount by 5 per cent or more; among the private banks, who are especially hard hit by structural change, the figure goes as high as 26 per cent (10 per cent last year). At the same time, 95 per cent (85 per cent last year) of the banks responding expect the number of bank branches to be reduced considerably by 2020; they have already closed down some 640 of them between 2000 and 2015.

Inflows make up for asset outflows
Despite the imminent implementation of the automatic exchange of information regime involving dozens of nations, 71 per cent of the banks questioned (66 per cent last year) said they had seen no significant outflows of foreign clients’ funds over the past twelve months. 

Some 74 per cent of banks (compared with 53 per cent last year) reported no significant outflows of foreign assets.

Of the banks surveyed, 34 per cent are regional banks, 27 per cent are private banks, 23 per cent are foreign banks and 16 per cent are cantonal banks; 74 per cent of the banks are based in the German-speaking part of Switzerland, 19 per cent in Western Switzerland and 7 per cent in Ticino. The telephone survey was conducted in November 2016 on behalf of EY by the independent market research institute Valid Research of Bielefeld, Germany.