Finance

Lionel Laurent is a Bloomberg Gadfly columnist covering finance and markets. He previously worked at Reuters and Forbes.

One way to win a losing argument is to switch tack and bring up something so big and striking it distracts attention from this issue you don't want to talk about -- a tactic once likened by clownish British politician Boris Johnson to throwing a dead cat on the table.

Screaming Buyback
HSBC's announcement of a $2.5 billion share buyback helped distract from a disappointing Q2
Source: Bloomberg
Intraday times are displayed in ET.

HSBC CEO Stuart Gulliver, one of Europe's longest-serving bank chiefs, has tried to do just that. On Wednesday, he promised investors a $2.5 billion share buyback to help them get over a set of disappointing second-quarter results.

Given so many other European banks have struggled to generate the profits and spare cash needed to satisfy frustrated shareholders -- banner buybacks have been mainly restricted to lenders in the Nordic region -- the announcement lifted HSBC's shares by almost 4 percent. It's also a no-brainer for HSBC: as Gulliver himself pointed out in April, the stock trades for less than its book value (a 24 percent discount, according to Bloomberg Intelligence).

Banks Discount
HSBC's shares trade at a discount to their book value
Source: Bloomberg

For Gulliver, who is expected to step down in the next two years or so, this is something of a feline lifeline: a gift for shareholders this year, the promise of additional buybacks in 2017, and a pledge to maintain the dividend. This all reflects HSBC's capital strength -- its core capital ratio rose to 12.8 percent in the period -- and the lender's ability to generate a profit, however disappointing. 

More To Be Done
Cost cuts are failing to keep up with falling revenue and rising loan impairments
Source: Company reports

But this shouldn't be the start of a victory lap. There's much work still to be done, as HSBC's announcement clearly shows. Revenue is still falling faster than costs. Given the poor outlook, HSBC said it may extend a plan to remove $5 billion of costs by 2017 by an additional two years. That would leave much of the hard work to Gulliver's successor.

The bank has also scrapped its goal of surpassing a 10 percent return on equity by the end of next year. Impairments are rising, with a commodity price crunch still hurting energy and mining companies. Political uncertainty and slowing economic growth are putting the brakes on lending, dealing a blow to revenue.

HSBC has also backed away from a commitment to pay out a greater proportion of earnings in dividends, and now only expects to the keep the payments flat. This offers some relief to investors who had expected a cut. At 7.6 percent, the stock's dividend yield was more than any other British bank, according to Bloomberg data. But the pain is likely only to have been delayed.

Earnings in the first half came in 32 cents a share. Even assuming a similar performance in the second half, the bank's current 51-cent dividend would mean paying out 80 percent of profits to shareholders. You would need a hefty dose of confidence to imagine this ratio holding in a world where targets are being scrapped.

None of this will matter to investors betting on a steady stream of share buybacks. HSBC is dangling the carrot of more to come next year, using capital no longer needed by its shrinking U.S. operations. But those payments aren't guaranteed given that British regulators would approve further payments. While Europe's bank stress tests are over, we won't know how HSBC performed in the Bank of England's own stress tests until the fourth quarter. There are reasons to stay cautious.

Gulliver may have deftly bought the bank some breathing space. The risk is investors aren't distracted by the dead cat on the table for long.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
Lionel Laurent in London at llaurent2@bloomberg.net

To contact the editor responsible for this story:
Edward Evans at eevans3@bloomberg.net