KEY POINTS:
Will the subprime crisis mark the breaking point for the global banking model? There are some early signs that it might.
Citigroup, the world's biggest bank until last week's write-offs and management departures, will have to split to survive, say leading analysts.
HSBC, which has taken the top slot, is being pressed to do the same by a vociferous activist investor.
Swiss bank UBS could well face a similar shareholder campaign after a series of subprime write-offs and hedge fund losses have raised questions about the legitimacy of combining its investment banking division with its - much more robust - private banking operations.
Add in the speculation that Bear Stearns could succumb to a bid, widespread speculation about the risk of more write-offs, dividend cuts - and even the warning that at least one big US bank could go bust - and the global banking model is suddenly starting to look rather vulnerable.
The attractions of that model are straightforward enough. The bigger the bank, the more capital it has to win business; the more regions and businesses operations are spread across, the less impact a dip in one area or business will have on the overall results; and the more diversified the operations, the more opportunities there are to cross-sell services to clients.
For the past few years, this model looked a surefire winner as profits across the industry soared: Morgan Stanley's earnings rose by 66 per cent in the three years to the end of 2006 and Goldman Sachs, the doyen of all the so-called "bulge bracket" banks, doubled its earnings over the same period - and Britain's Barclays Capital, part of the high street banking group, did even better, albeit from a much lower base.
It now appears these spectacular results have been built on sand.
Citigroup, Merrill Lynch and Morgan Stanley between them have written off more than US$22 billion ($28.7 billion) relating to US subprime mortgages, and the City of London - the British capital's financial district - is braced for more.
Goldman Sachs has made no write-offs so far and BarCap and Royal Bank of Scotland - the two UK banks most exposed to the credit crisis - have not yet said anything, but the pressure from the City for statements about their exposure is growing daily.
And many analysts think even those banks that have already come clean could be forced to make further bad-debt provisions before the crisis is over.
That will load yet more pressure on the global giants to justify their business models.
Indeed, even before Citigroup chief executive Charles Prince departed last weekend, investors were questioning whether its global strategy was working.
The global diversification that should have been a key selling point was, in fact, a handicap as Citi got embroiled in virtually every scandal going - from bond trading in London to corporate banking in Tokyo - tainting its reputation among both regulators and clients.
Nor have its results reflected its supposed strength. Meredith Whitney, an industry analyst who is said to have attracted death threats this month after predicting the bank would need huge write-offs, points out that its income has stayed relatively flat for the past three years. She believes a break-up is now the only solution.
Pointing out that the current write-offs had already undermined its balance sheet, she says: "We believe that ... the bank will have to raise over US$30 billion in equity. To do that, it could cut its dividend, raise capital, sell assets - or a combination thereof."
On the face of it, HSBC's problems are far less severe. While it did take a write-off of more than US$10 billion last year because of its subprime lending, it still made a record US$22 billion profit; its relatively small investment bank does not have trading arms of the type that are causing the swingeing subprime write-offs elsewhere; and it has not been as accident-prone as Citi.
But Knight Vinke, the activist investor that is campaigning for change, questions whether it has benefited from its global spread.
While its US, British and European business markets are supposed to supply the capital for its faster-growing emerging markets businesses, in fact, Knight Vinke says, returns in developed markets are pedestrian while the emerging-markets investment lacks focus.
Simon Maughan, banking analyst at MF Securities, says HSBC claims to have six products, in lending, savings and life insurance, that will have attractions across its empire.
But, says Maughan, when you ask what they are, "it says it does not know yet. To a degree, it has found the answer and now wants to find the question. It is trying to justify its global scale."
He thinks UBS will also face pressure for a break-up if there is not a significant improvement in performance from the new management team installed during the summer. "Shareholders are likely to say they want a bank with a narrower focus."
Derek Chambers, a banking analyst at Standard & Poor's, agrees there should be benefits from global banking - such as efficiencies in payments processing, the ability to ride out problems, and delivering the benefits of scale to customers. But, he adds, "there are questions about whether any of these add value".
Certainly ABN Amro - one of the few banks with a global payments system and operations in South America and Asia as well as Europe and the US - failed to secure any advantage from them. Its performance was so poor that it was targeted by activist investors and eventually fell to Royal Bank of Scotland, after a battle with Barclays.
While RBS has an enviable reputation for cost-cutting, secured following its takeover of NatWest, there is considerable scepticism that it will manage an international banking empire any better than ABN did.
Goldman Sachs - so far at least - is the key exception to the underperforming trend, despite the fact that it also has the biggest and most aggressive trading desk. That, says Chambers, is down to management.
"Banks are IT-driven businesses to a large extent. Any fool can spend on IT; it takes good management to spend on IT and deliver results."
But Maughan says its good performance reflects its focus. "A long time ago, people were saying that it was just a large hedge fund. Clearly they believe they can make sustainably good returns from proprietary trading [that is, trading on their own account rather than for clients]. To date, they have been very successful, but no one else has got the risk appetite to do it."
The current travails make it likely the banks will start to think about the range of services they offer - and the chances are they will all start paring back their operations. There are also likely to be mergers - Bear Stearns, one of the earliest subprime victims, is seen as particularly vulnerable but there could be others.
And Ken Murray, chief executive of Blue Planet, a fund manager that specialises in financial companies, has reiterated his belief that at least one US bank will collapse as the crisis plays out. The threats to the global banking model will not go away quickly.
- Observer
