Operating and Financial Review

Economic Environment

In the second quarter of 2014, global economic growth is projected to have picked up pace due to a greater economic momentum, not only in industrialized economies, but also in emerging market and developing countries. In the seven biggest industrialized countries, growth is expected to have risen to around 2 % on an annualized basis in the second quarter of 2014 in comparison to about stagnation in the first quarter.

The eurozone economy appears to have continued to grow moderately in the second quarter of 2014, representing the fifth consecutive quarter of positive growth following six quarters of contraction in which the eurozone economy shrank by nearly 1.5 %. Growth of the German economy is estimated to have slowed in the second quarter 2014, primarily due to a weather-related decline in the construction sector. In contrast, growth in the U.S. and Canada should have significantly recovered in the second quarter of 2014, after growth in the first quarter of 2014 had noticeably weakened due to adverse weather conditions. In the United Kingdom, growth is likely to have clearly risen. In Japan, however, the increase in value-added tax, which came into effect in April 2014, is expected to have significantly impacted growth, with the result that the Japanese economy probably shrank noticeably in the second quarter 2014.

For China’s economy the expectation is that growth was somewhat stronger in the second quarter 2014, driven to some extent by increased fiscal and monetary policy stimuli, whereas in Russia the results of the purchasing manager survey indicate a decline in economic activity in the same period.

For the Banking Industry, overall, the second quarter 2014 was characterized by a further gradual improvement in European financial markets. In lending business with corporate clients, the rate of decline in volumes slowed again. Loans to private households again fell slightly in comparison to the prior year. Sustained solid growth in private sector deposits helped to further reduce the credit overhang compared with the funding base. Germany again recorded an above-average development with corporate lending by and large on the same level as a year ago and retail loans have grown, driven by an increase in mortgages. Overall, confidence within the banks in the euro area and investor trust clearly continued to grow as total assets showed signs of stabilization in the second quarter 2014. Moreover, banks became more active in the bond market and borrowed more than in the two extraordinarily weak second quarters of 2012 and 2013 together. In addition, a number of banks strengthened their capital bases by issuing new shares.

In the U.S., on aggregate, lending growth remained high. That said, the rate of expansion of loans to companies, which had been the key driver to date, slowed considerably and the volume of residential mortgages remained stagnant. By contrast, growth accelerated in other categories, such as consumer loans and commercial mortgages. The recent sharp increase in deposits lost a bit of momentum.

In investment banking, origination volumes in the fixed-income segment recorded a moderate increase compared with previous year. However, debt trading posted a significant decline from what had already been a fairly weak level. On the equities side, issuance activity in the second quarter 2014 was very strong but trading volumes, again, were lower than in 2013. Finally, in the merger & acquisition business, the upward momentum increased and the quarter ended with one of the best results of all time: announced transactions reached a value of more than U.S.$ 1 trillion, a threshold that was last exceeded in 2006/07 and, prior to that, during the new economy bubble in 2000. Overall, in the underwriting and advisory business, European banks succeeded in winning back market share from their U.S. competitors in the first half of 2014, following losses last year.

In asset management, too, banks profited from new record highs of key equity indices such as the Dow Jones and the Dax, the leading German index, which broke the 10,000 barrier for the first time in June. Following major central banks’ announcements to maintain a sustained low-interest rate environment, the risk appetite of many investors is likely to have risen further.

With regard to changes in financial supervision and regulation, the focus in the second quarter of 2014 in Europe was on the adoption of the Single Resolution Mechanism (SRM) as part of the Banking Union, the adoption of the Bank Recovery and Resolution Directive (BRRD) and the European Central Bank’s Asset Quality Review in the run up to its assumption of the role of single supervisor for the euro area’s leading banks. In the U.S., further legal disputes, in some cases very costly, between the supervisory authorities and banks mainly dominated the headlines.