The Mortgage Bust Goes Global

While the housing slump has come to dominate American presidential debates and has sent Wall Street into a tailspin, the consequences of millions of foreclosures across the United States are also being felt far overseas. Nowhere is that more true than in Switzerland, the serene land of snowy peaks, ice-cold lakes and staid banks long considered to be among the most cautious in the world.

The Mortgage Bust Goes Global

Normally, St. Jakob’s Hall here is home to soccer tournaments or the occasional hockey game. But on a sunny morning in February, the stadium offered a corporate face-off every bit as contentious as any athletic event. More than 6,000 shareholders of the Swiss banking giant UBS packed the house to vent their fury over tens of billions in losses on American subprime mortgages and what they saw as an insult to traditional Swiss values like prudence and thrift.

The target of their anger wasn’t just UBS’s chairman, Marcel Ospel, or any of the bank’s other top executives, who were arrayed under a giant screen near where goalies usually tend the net. Instead, much of their ire was aimed at the United States itself — specifically an addiction to high-octane risk-taking, easy credit and dubious financial assumptions that created the domestic mortgage mess in the first place.

“The American El Dorado has become a scene from a Western,” declared one middle-aged shareholder, Therese Klemenz. “UBS was the figurehead of Swiss business. As a good housewife, I know you shouldn’t put all your eggs in one basket. A bank is not a casino.”

Thomas Minder, a local shareholder activist, was even more outraged. “What happened here is a scandal,” he thundered. “You’re responsible for the biggest loss in the history of the Swiss economy. Put an end to the Americanization of the Swiss economy!” At that point, Mr. Minder charged the podium, only to be dragged away by security guards.

While the housing slump has come to dominate American presidential debates and has sent Wall Street into a tailspin, the consequences of millions of foreclosures across the United States are also being felt far overseas. Nowhere is that more true than in this serene land of snowy peaks, ice-cold lakes and staid banks long considered to be among the most cautious in the world.

Until now, that is. That’s because UBS — with $3.1 trillion in assets, Switzerland’s biggest bank — made an astonishingly large bet on risky mortgage securities. At one point, that wager amounted to $80 billion, a gambit the bank lost. UBS has already been forced to write down about $37 billion of that financial roll of the dice — more than Citigroup, more than Merrill Lynch, more than any other bank in the world.

Last week, after enduring months of fierce criticism, Mr. Ospel abruptly announced that he would step down as chairman later this month. Shares of UBS rallied, but that’s cold comfort to people like Mrs. Klemenz, who have watched the stock drop by half since last summer.

In Switzerland, they say, if you want to be nice, speak Italian. If you want to be understood, speak French. And if you want to be heard, speak German.

Like much of the financial and political elite here, Mr. Ospel is Swiss-German, and he speaks fluent English and French. But his style is definitely Teutonic. When a shareholder at the Basel meeting insisted on speaking in Italian, one of Switzerland’s four official languages, Mr. Ospel cut him off.

“You can speak Italian if you want to, but I won’t understand,” he said.

Looking out at the huge crowd over a pair of half-rim glasses, Mr. Ospel, 58, never lost his poise. When a shareholder named Jakob Trump called for him and the rest of the board to resign, adding that “a normal worker would be sacked for this,” Mr. Ospel coolly responded, “Danke, Herr Trump.”

But during an interview on Friday at UBS’s neo-Classical headquarters in downtown Zurich, the steely composure Mr. Ospel brandished at the Basel meeting was gone. Sitting in a plain white conference room adorned with maps of the world and the United States, his hands trembled and his eyes were cast downwards.

“I’m the chairman of this firm and ultimately responsible for what has happened,” he said, taking a long drag on a cigarette. “But I have the highest respect and confidence for the leadership as it is now in charge.”

Mr. Ospel said he first became aware of the extent of the threat UBS was facing in early August — three months after its Dillon Read Capital Management hedge fund unit was shuttered after big trading losses. This was six weeks after the implosion of two highly leveraged Bear Stearns hedge funds kicked off the credit crisis for the rest of Wall Street.

“I remember when I came back from summer vacation, Rohner explained we had this gigantic exposure,” he recalled, referring to UBS’s chief executive, Marcel Rohner.

Like others at UBS interviewed for this article, Mr. Ospel said the bank’s failure stemmed from a fundamental misreading of the market for mortgage securities. But he also acknowledged that the losses showed that UBS’s vaunted risk-management system had broken down.

“The key issue is that the system operated within its limits, given the assumed quality and liquidity of the assets,” he said. “Clearly, there was a problem when you build such a concentrated exposure and it doesn’t appear on any of the appropriate radar screens.”

And he ruefully noted that until UBS’s disastrous foray into what turned out to be Wall Street’s riskiest market, the bank’s success in the United States was a source of satisfaction in Switzerland.

“People were proud that a Swiss firm had established such a significant footprint in the most competitive market on the globe,” he said. “So the greater the disappointment with what they have had to digest.”

Disappointment is widespread. “People now question UBS’s ability to manage risk and judge just what a conservative investment is,” says Dirk Hoffmann-Becking, an analyst at Sanford C. Bernstein & Company.

UBS bought mortgage-backed securities on Wall Street, rather than making loans directly to American home buyers with bad credit histories and no assets, but that’s a distinction lost on the Swiss public.

“A large part of the population thinks we did what Countrywide did,” says Mr. Rohner, the UBS chief, referring to Countrywide Financial, the troubled California company that is the largest American mortgage lender. “People think we gave subprime mortgages in the U.S. We did not.”

Maybe so, but even after the huge write-downs, UBS still has more than $30 billion in exposure to securities linked to the kind of risky mortgages that Countrywide and other lenders doled out when home prices were still rising. And there’s no guarantee that the red ink has been stanched.

“We still have positions, and I can’t foretell the future,” Mr. Rohner acknowledges. “The real issue is that if liquidity dries up, there is no way out.”

Even UBS’s wealth management arm, which is the most popular private bank in the world for wealthy people seeking safety and discretion and has $2.1 trillion in assets, has seen its global luster dimmed by the American losses.

Although UBS has replaced or forced out many executives, most members of the committee responsible for assessing potential risks remain in senior positions in Zurich. The incoming chairman of UBS, Peter Kurer, was on this committee, as were Marco Suter, the current chief financial officer, and Mr. Rohner.

These days, UBS executives are rushing around the globe reassuring clients that the bank doesn’t face the kind of threats that brought down Bear Stearns last month.

That’s especially true in the United States, where UBS employs roughly 30,000 people, slightly more than in Switzerland itself. In New York, UBS’s top investment bankers say they are scrambling to make sure competitors don’t try to pick off wary clients. UBS executives also say the bank has no plans to pull back from the American market, despite pressure from many Swiss shareholders to do so.

While Wall Street giants like Citigroup and Merrill Lynch have seen their chief executives depart amid billions in mortgage-related losses, UBS has been unusually open about its failure to foresee the subprime crisis and the inability of its sophisticated risk-controls to sound alarms.

Partly that’s because UBS is desperate to shore up its reputation, given scenes like the one here in Basel. But it’s also because its top leaders seem puzzled that their bank could lose this much, this fast.

“It’s been hard emotionally because we were the safe bank, the conservative bank, and we worked very hard on that,” says Daniel Coleman, an American who is a top equities executive with UBS’s investment bank in Stamford, Conn. “Mortgages were viewed as a safe, liquid asset, which turned out to be wrong.”

Stretching out over the length of two football fields, UBS’s open trading floor in Stamford is the largest of its kind in the world. Surrounded by 5,000 computer monitors and a sea of blinking lights, traders at one end of the floor appear as mere specks to their colleagues at the other end. Heating is unnecessary, because all the computers and bodies give off enough heat to warm the room even on the coldest days. The site has its own backup generators as insurance against blackouts.

Unlike other European financial heavyweights like Deutsche Bank or Barclays, which failed to establish a major presence on Wall Street over the past decade, UBS has been relatively successful on American shores. A creation of the 1998 megamerger of the Union Bank of Switzerland and the Swiss Bank Corporation, UBS went on to acquire the PaineWebber Group, a major American brokerage firm, in 2000.

After that, it continued to do well in the fiercely competitive realm of investment banking, and now it ranks not far behind American stalwarts like Goldman Sachs and Morgan Stanley. Although UBS has advised on megadeals like Procter & Gamble’s acquisition of Gillette, the Swiss giant still feels slighted.

“In investment banking, UBS doesn’t get its due,” says J. Richard Leaman III, the joint global head of investment banking at the firm. “If you asked who is in the top five, I’m not sure our name would come up for the uninformed.”

Yet, for all the strides UBS made in investment banking in the United States, over the last few years its executives began to feel like laggards in one area that was booming: the mortgage market.

They watched enviously as rivals like Bear Stearns and Merrill Lynch practically minted money in the mortgage frenzy. So, about three years ago, UBS jumped into the fray.

“They were late to the game,” says Jon Peace, a Lehman Brothers analyst in London. Still, UBS had other advantages, Mr. Peace says, like access to billions of dollars it could borrow at very low interest rates, thanks to its position as the bedrock of conservative Swiss banking.

In 2005, UBS started buying billions in mortgage-backed securities, profiting from the higher yields these bonds carried and trusting their AAA credit ratings, despite the risks inherent in the underlying mortgages.

At the same time, its Dillon Read unit was doubling up on the same bets. If all this weren’t enough, UBS’s fixed-income desk was also scooping up mortgages and repackaging them as securities that could be sold to other investors or simply added to the bank’s already-swelling inventory.

With important parts of the UBS empire gorging on mortgages, profits and revenues rose smartly, Mr. Peace says. But by the beginning of 2007, problems were cropping up as American subprime lenders like New Century filed for bankruptcy. With losses mounting, UBS moved to shut down Dillon Read in early May, making it Wall Street’s first casualty of toxic mortgage debt.

“We like to say we’re in the moving business, not the storage business,” says Robert Wolf, the president of UBS’s investment bank. “But we got away from that philosophy.”

UBS officials like Mr. Wolf now blame Dillon Read for adding to the magnitude of the disaster, but a former senior trader at Dillon Read says he warned bank managers in early 2007 that credit markets were on the verge of a meltdown.

“I first started selling in March but they thought we were crazy, that we were panicking,” recalls this trader, who insisted on anonymity because he was not authorized to publicly discuss UBS affairs.

In interviews, this trader, as well as several other former senior managers of UBS, said the company’s layered system of management committees compounded the problem. Before major decisions could be put into effect, the investment bank’s management committee needed to sign off. Then a special risk-monitoring team had to review it. Lastly, an entity known as the Group Executive Board bestowed the final seal of approval.

Or maybe not. In some instances, the chairman’s office in Zurich, made up of Mr. Ospel and two other senior Swiss executives, would also weigh in.

“UBS’s reputation was conservatism, and bureaucracy goes hand in hand with that,” Mr. Peace says. “Things were much more controlled out of Zurich at UBS.”

While bureaucracy offers a buffer against ill-considered investment and trading strategies, once those decisions are set in motion it can cause a bank to be less dexterous when markets turn in unforeseen and unpredictable directions. UBS is Exhibit A for both sides of that divide.

The bank’s measured, formal pace may have undermined UBS when it collided with rapidly shifting American capital markets. The senior trader from Dillon Read points to the ability of more nimble competitors like Lehman Brothers — and especially Goldman Sachs — to speedily reposition themselves; that agility helped them to avoid the worst of the fallout from the mortgage mess.

“No one got out unscathed,” he says. “But the committee process inhibited UBS from acting quickly.”

By the time UBS got around to unloading its hoard of subprime assets late last year, prices for those assets were already plunging. In some cases entire markets were freezing up, making further sales impossible. “If you compare UBS to other banks, UBS clearly held on to these positions until very late,” says Mr. Hoffmann-Becking, the Sanford C. Bernstein analyst.

For Swiss shareholders, however, something more than stunning losses is gnawing at them. They say the larger mystery is why UBS got involved with American-style investment banking in the first place, rather than sticking to its core strengths as a private money manager for the world’s wealthy and its traditional banking activities in its home market.

“Everyone should know that investment banking is dangerous,” says Roby Tschopp, managing director of Actares, a Swiss organization that represents shareholders and is one of Mr. Ospel’s loudest critics. “For everyone in Switzerland, UBS remained the big retail bank — reliable, quiet, ordinary. They didn’t know UBS is no longer what they had in mind.”

TWO months ago, Mr. Leaman, a straight-talking Pennsylvania native who has been with UBS for more than a decade, gathered several hundred of his investment bankers for a town-hall-style meeting in Manhattan.

“I put up a horrible headline on the screen and said: ‘This is what you are going to be looking at. This is what you’re going to be reading about. This is what you’re going to sell,’ ” he recalls.

His thoughts were prescient. When UBS announced a $13.7 billion write-down last fall, the bank received relatively little media attention in the United States. American banks were revealing their own titanic losses at the time, and UBS stayed beneath the radar. But last week, after announcing a $19 billion write-down, the bank landed on the front page.

Mr. Leaman says he has urged his bankers to be candid with customers about the write-downs, while assuring them that “we’re alive and well and very, very much in business.”

“If you write down $19 billion, you have to go out and you talk to your clients, quickly,” he adds. Mr. Leaman and his team scored one notable success recently when UBS was given a key role in the $18 billion initial public offering by Visa last month, the biggest I.P.O. in Wall Street history.

From the trading floor in Stamford, Mr. Coleman is making similar phone calls, and in some cases he is arranging conversations between Mr. Rohner, the C.E.O., and UBS’s trading partners and investors to reassure them.

“Our clients are staying with us,” Mr. Coleman says. “It could be a lot worse.”

Sticking with activities like trading and underwriting now, he argues, will ultimately pay off. He compares the current crisis to the economic downturn that ravaged overseas markets a decade ago. “We are the best I-bank in Asia today because we didn’t pull back in 1998,” he says.

UBS, meanwhile, says its private bank is thriving. Even though inflows of new cash have slowed during the subprime debacle, “the miracle of UBS is that we gather as much net new wealth every year as some private banks have as total assets under management,” says Marten S. Hoekstra, head of wealth management for the Americas. The bank’s total assets in the United States now equal $740 billion, up from $540 billion two years ago.

Late last year, there were rumors that UBS planned to sell the retail brokerage wing of its former Paine Webber unit, which employs more than 8,000 financial advisers. But Mr. Wolf and other UBS executives say that this business is not for sale.

Mr. Rohner adds that he is similarly committed to the American market, and he plays down the anger at home. “The anger wasn’t at America,” he says. “It was at UBS. We made some mistakes. Take it with a grain of salt; it’s not representative of broad Swiss opinion.”

As for any cultural difference between the American approach to capitalism and the Swiss one, he doesn’t buy it. “I think in terms of values and culture, the U.S. and Switzerland are close together,” he says. “When I’m in Cleveland, Ohio, it could be Switzerland. There is not much of a division.”

Perhaps. But some shareholders clearly see a divide, and at least one is calling for the bank to make an even more explicit division. In a letter last week, Luqman Arnold, an investor and former president of UBS, called on the company to split the troubled investment bank from UBS’s crown jewel, the wealth management business.

Mr. Ospel, in the interview on Friday, said that this would be a mistake: “We have reassessed the strategy over and over again and came to the conclusion that the integrated model makes sense.”

As Mr. Rohner did, Mr. Ospel also shrugged off the resentment now brewing in Switzerland over UBS’s headlong plunge into the subprime pool. “I don’t think it’s about these two countries,” he said. “America’s culture has always attracted interest and enthusiasm here.”

Via NY Times