Natixis's Pursuit of Exotic Trades Falters With $296 Million Hit
(Bloomberg) -- Since recovering from the financial crisis, Natixis SA has profited from some of the most esoteric trades in global finance, including derivative deals with names such as the Flash Lizard and the Cobra.
Some of those deals have now come back to hurt Natixis’s investment bank. The Paris-based lender took a 260 million-euro ($296 million) hit this quarter from hedging Asian equity derivatives, a risky business that has been a priority for Chief Executive Officer Francois Riahi.
The shares fell by the most in more than two years, as investors questioned the French bank’s ability to manage its risk-taking. The bank has reorganized its business and the head of the Asian equity-derivatives business has stepped down, according to a person familiar with the matter.
“We should expect Natixis to drastically rein in their derivatives business, especially in higher-growth markets,’’ said Gildas Surry, a portfolio manager at Axiom Alternative Investments in London, which owns the French bank’s bonds. “Growth should not only come at a reasonable price, but first and foremost at a reasonable risk.’’
Natixis has taken market share from bigger rivals in recent years as it embraced riskier, more lucrative trading businesses while exiting straightforward operations. Yet the losses, which represent a huge chunk of the firm’s investment-bank earnings, show that strategy may be challenged by the volatility swirling around global markets and may put pressure on Riahi, who became CEO in June and previously oversaw the drive into Asia.
“The size of the hedging losses does raise questions about risk management,” JPMorgan Chase & Co. analysts Delphine Lee and Kian Abouhossein wrote in a note to investors Wednesday. While remaining overweight on the stock, JPMorgan is cutting its earnings per share estimate through 2020 “to account for more prudent assumptions for equities and asset management, given the challenging markets.”
Natixis fell by as much as 8 percent in Paris trading, the most since June 2016. The shares traded at 4.14 euros as of 3:58 p.m., the lowest in more than two years.
Cedric Dubois is no longer head of Natixis’ equity derivatives for Asia, said the person, who asked not to be identified because the matter is private. He didn’t respond to a request for comment made through his LinkedIn profile. Benoit Gausseron, a spokesman for the bank, said that Dubois remains an employee.
Natixis named Viet-Linh Ha Thuc head of global markets trading for Asia Pacific about three weeks ago, another person familiar with the matter said.
A model used to hedge some structured products traded with clients in Asia proved “deficient” under current market conditions, Natixis said in a statement late on Tuesday. The products, related to South Korean stocks, are known as autocallables, according to a person familiar with the matter. These are a type equity derivatives, complex contracts that derive their values from underlying shares, that are typically sold to retail and institutional investors.
Natixis reported a 100 million-euro revenue impact and also booked a provision of 160 million euros to cover the management of the products, according to the statement. The bank reported 599 million euros in total global equities trading revenue for all of 2017, filings show.
“Risk management must know that these autocall products are very difficult to model,” said Surry. “Their top quantitative analysts spend their days and maybe nights trying to understand the predictability -- or lack of -- of their behavior in various market stresses.”
The French bank significantly expanded its Asian investment-banking operations during recent years, partnering with the Korea Exchange in 2017 to start the first index designed for structured products called the Kospi 3. The equity-linked securities market in Korea stood at 70 trillion won ($63 billion) at the end of November, according to data from the Korea Securities Depository.
The expansion was part of a drive into more lucrative markets under Riahi and his predecessor, Laurent Mignon. Along with Asian equity derivatives, the bank has also pushed into U.S. collateralized loan obligations and complex securities financing businesses. In 2017, Natixis’ markets unit outperformed most of its bigger rivals.
In August, trade publication Risk.net named Natixis “Korea house of the year” for structured products. In the article, Nicolas Reille, a senior sales executive for the French bank, described products including the Cobra, the Triple Lizard and the Flash Lizard.
Markets around the world were rocked by a surge in volatility in October amid increasing trade tensions and fears of slowing growth. The MSCI Asia Pacific Index has tumbled about 10 percent since the end of September. Natixis is one of the first investment banks to report being hurt by the discord.
“Usually, French banks run very competitive platforms for retail derivatives products,” said Lutz Roehmeyer, who helps manage about $500 million at Capitulum Asset Management in Berlin. “This problem at Natixis might show a disconnect with bigger players and lead to pressure on the business model.”
When the Hong Kong China Enterprises shares index lost about half of its value from mid-2015, dealers also had problems hedging structured products. Banks typically use equity futures and options to hedge such products. South Korea is a significant market for them.
Natixis has gained market share from larger rivals in recent years, though its equities business was already suffering from the challenging market conditions in Asia.
The bank confirmed that it plans to pay a 1.5 billion-euro special dividend, in spite of the hit to revenue.
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