Daiwa Securities Group Inc

TSE:8601

Earnings Call Transcript 2023-Q1

[Motoi Mishiba, executive]

Investors, thank you very much for your patience. Thank you very much for participating for the Daiwa Securities Group for the first quarter fiscal year 2022 earnings announcement.

So as the time has come, we would like to start the meeting. Today from the Daiwa Securities Group Inc., we have CFO Sato's participation. I am the moderator for today, the Head of IR, Mishiba. Thank you very much.

First of all, Sato will explain about the first quarter FY 2022 earnings. After the presentation, we will be receiving the questions from the investors. This meeting through the internet is open to the general investors as well. So let's go to the presentation.

[Eiji Sato, executive]

I'm Sato from Daiwa Securities Group. Thank you very much for joining the telephone conference despite your busy schedule. I will explain about our first quarter of fiscal year 2022 results that we announced today based on the presentation material that is posted on our website.

First, please turn to Page 4. Let me give you the summary of our consolidated results. The ratio change is in comparison with first quarter fiscal year 2021. The first quarter of 2022 saw a decline both in operating revenue and profit due to market environment deterioration. In the Retail division, equity revenue declined, but revenue for wrap account service and investment trust distribution commission increased.

In the Wholesale division, earnings and expenses of global markets and global investment banking worsened. Profit attributable to owners of the parent was JPY 11.8 billion, a decline of 34%. Annualized ROE was 3.4% and BPS was a record high at JPY 943.71.

Please turn to Page 10. I will explain about our P&L. Commissions received declined by 3.3% to JPY 67 billion. The details are explained in Page 23. As trading of both Japanese and foreign equity decreased, brokerage commission was JPY 15.1 billion, declining by 14.4%.

Commissions for underwriting and secondary offering was JPY 5.3 billion, increasing by 5.6%. Distribution commission increased by 6.4% to JPY 3.6 billion. M&A-related commission was JPY 7 billion, declining by 6.2%.

Please turn to Page 11. This is the status of SG&A. SG&A increased by 2.6% to JPY 97.2 billion. Under trading-related expenses, commissions paid and travel expenses increased. Personnel expenses increased in overseas operation due to the weaker yen. Earnings-linked bonuses increased in the Americas.

Turning to Page 13. Next I would like to explain about the ordinary income of our overseas business. Total overseas ordinary income was JPY 2.8 billion, declining by 24.8% quarter-on-quarter. In Europe, although primary revenues increased, sluggish client activity continued both for equity and FICC. In Asia and Oceania, both equity and primary revenues declined, leading to a novel decline in ordinary income. In the Americas, FICC and M&A revenue increased, but on the other hand, equity revenues declined.

Next I will explain about the by-division performance. Please turn to Page 14. First about the Retail division. Net operating revenue was JPY 40.3 billion, down 4%. Ordinary income was JPY 6.2 billion, down 6%. Equity revenue declined due to the decrease in trading volume for both Japanese and foreign equity. Distribution commission for investment trust increased as sales of stock investment trust grew. For other revenues, went up due to the increase of wrap-related revenue. Asset-based revenues expanded to JPY 19.6 billion. This is 49.7% of the net operating revenue of the Retail business division.

Please turn to Page 15. This slide is the status of the sales and distribution amount and topics for the first quarter for the retail business. In the wrap account service, contract amount was JPY 144.6 billion and net inflow was JPY 82.6 billion; both saw an increase.

For the stock investment trust, global high dividend stock fund sold well. Sales of value equity funds was steady as well. In the lower left of the slide, there is a graph depicting the sales and distribution amount and net growth ratio of wrap account services and stock investment trust. The net growth rate was 17.9%.

Next please go to Page 16. I will explain about the Wholesale division. Starting off with global markets, net operating revenues were JPY 24.4 billion, down 28.4%. Ordinary income was loss of JPY 2 billion. Equity revenues declined on the back of a decline in customer flows due to market uncertainties and the rise in volatility, which made the position management more difficult.

FICC revenues declined. In Japan, credit income stayed low due to credit spread widening, although revenues from JGB stayed solid. In overseas, income opportunities increased on the back of higher interest rates and the volatility in the United States, which resulted in higher income.

Please turn to Page 18. This page is on the global investment banking. Net operating revenues were JPY 11.4 billion, up 6.4% and ordinary income was loss of JPY 1.1 billion. In the equity underwriting business, revenue declined due to the shrink of the market, even though we accumulated a short record of mandates as a lead manager.

In the debt underwriting business, revenues increased as we accumulated the track record of serving as a lead manager of subordinated bonds. Revenues from M&As also increased because we made steady execution of mandate overseas.

Please turn to Page 19. Let me next explain Asset Management division. Net operating revenues were JPY 18.6 billion, down 4.8%, and the ordinary income was JPY 11.1 billion, which was down 0.3%. Daiwa Asset Management net revenue was flat due to a decline in the market value, even though capital inflows were net positive. With regards to the real estate asset management, AUM of Daiwa Real Estate Asset Management increased.

Please turn to Page 21. Let me explain the results in the Investment division. Net operating revenues were JPY 3.6 billion, down 10.3%, and ordinary income was JPY 4.4 billion, up 9.3%. Revenues from investments in private equity and monetary claims increased. In addition, equity net of investment gain in Aquila Capital, which is under Daiwa Energy Infrastructure, increased. This completes my explanation of the results in Q1 of FY 2022.

Our consolidated performance in Q1 was a difficult one. On the back of large headwinds over external environments with accelerated decline in the stock market, bond market and the yen at the same time. On the backdrop of unstable markets, attitude of both investors and the corporate became more weak and demote, which impacted the performance of the Wholesale division negatively.

In particular, performance in Market division declined largely, which was the result of multiple factors. First, customer flow declined a lot due to more wait and see attitude of investors. This reflects fast speed of yen depreciation, hitting the record low in 24 years, which impacted foreign currency denominated investment overall in addition to decline in the stock market.

In addition, we had difficult time in position management in the highly volatile market environment. We posted a loss mainly from existing derivative positions due to rapid shift in interest rates and exchange rates in addition to dip in the stock markets, both of Japan and the United States on the back of lower customer flows.

We have already identified reasons for the deterioration of our performance and are taking various actions to improve the accuracy of position management. Therefore, we think this type of extreme deterioration in our performance is temporary. On the other hand, we did well in the Retail division where we made a good progress on the shift to wealth management business model and a cost restructuring. We secured JPY 6.2 billion ordinary income in Asset Management division and the Investment division, which maintained a good momentum through business portfolio diversification.

Now looking at what is happening right now at this moment, markets are gradually restoring sanity. Sentiment of both retail and institutional investors is on the improvement trend. Therefore, we expect the customer flow to recover. Because we are in this type of market environment, what we continue to do is to establish stronger income model by differentiating ourselves from others by providing high-quality solutions to address customers' needs and challenges.

I appreciate your continued support and cooperation to us. Thank you very much.

[Operator]

So this ends the presentation. Next we would like to receive questions from the investors. [Operator Instructions] So this is the first question from SMBC Nikko, Muraki-san.

[Masao Muraki, analyst]

I'm Muraki from SMBC Nikko. So first, in terms of the Market division. So lastly, you have explained that the clients trading and transactions has declined and the position management has been -- you have been struggling to manage the position. So in the latter part, so equity and fixed income, what has been the issues for equity and fixed income? Can you elaborate on that?

So for in the U.S. related or the minimal securities -- the equity and the fixed income basically besides credit, the trading business seems to be favorable. So for your company, what were the issues? And what are the countermeasures that you have put in?

[Eiji Sato, executive]

Thank you for your question. Now first of all, we have the flow and position management. So what this will and the position is very difficult to separate these 2. So just to give you the image, so if you look at the fourth quarter and first quarter, it has declined quarter-on-quarter in terms of the range of the decline, equity flow declined by 6% and position declined by 40% -- versus 40. In terms of the FICC flow, 20% position with 80%. That was the breakdown.

So most of the decline came from the decline of the position management. And the reason why this happened is that in terms of equity -- well, this is a repeat, decline flow has declined and mainly the derivative positions. So of course, we hedge. But in terms of the Japanese and U.S., equities declined. There has been a drastic volatility in the exchange rate and we have not been able to catch up with this. And so that has been related to the loss.

In terms of FICC, so there has been a spread on the credit and the -- and it has been very difficult to take a position on top of that. So in terms of the forced market, the direction was different from what we have anticipated. So that was the reason why the loss has expanded. So it has been an extremely difficult market and a very volatile market.

So the first quarter showed difficult results. But from July onwards, we have seen a stabilization of the market. And I think basically, we think we're going to see the improvement. So the U.S. securities and shareholder securities, well, the difference is that I think it's the primary. So we do not do the primary business in the U.S. So I think this is a major difference. So the U.S. earnings increase, but that is basically treasury, MBS. So we have improved the business, but I think basically this is between us and the other securities in the primary area.

In terms of position, in terms of the risk amount, well, basically focus on flow. So in overseas, so if it's good, it's good, based on their position, but it's not we lose a lot. So we focus on flow I think and that's the reason why we have seen this type of performance.

[Masao Muraki, analyst]

Thank you for your explanation. In terms of fixed income, so the FSA in terms of the result of the monitoring, and there are some reports issued by the FSA. And I think there has been some strict work coming from the FSA in terms of the structured bonds. In terms of the structured products, will there be some impact trading from the structured products?

[Eiji Sato, executive]

If you consider this in terms of the structured bonds, so this -- it doesn't meet the needs of the customers, but it is a product profile and it has a higher risk because it utilize options and it says that you need to be cautious in selling these type of products.

And this has been reaching the progress report. And from the Securities Association, there has been a lot of reports coming out. And so this is a very important theme and we understand that point. However, in terms of the structured products, it's not that everything is bad. So if it's an adequate part of design that meets the needs of the client, so not only the need is out there, we will have to sell the products that match the consumers need.

And I think a focus product profile is important. From before, we have been confirming the customer needs in terms of the product attributes; we have been explaining it in detail. And so we have been clarifying the customer profile that will be selling these type of structured products.

So what type of impact that is going to have in the future? Well, there might be an impact, but we will continue to conduct the disciplined sales of these structured products based on our projection. So in terms of the products, we will sell the products to the customers who actually need the products. I hope I answered your question.

[Operator]

Next questions are from Morgan Stanley, MUFJ Securities, Nagasaka-san.

[Mia Nagasaka, analyst]

My name is Nagasaka from MUFJ Morgan Stanley Securities. Thank you so much for your presentation. I have 2 questions. First question is about on the Retail division. After July, would you please give us your impression on the momentum? The AUM has been increasing. But what has been the progress of that since July. And our porting equities sales trend since July compared to Q3 on the Q-on-Q basis, the transaction volume is down by 20% or 50%, depending upon the month. So after Q2, what has been the progress of the business of the Retail division and what is your take on the business trends so far?

And my second question is on the cost control. Overall, you've been controlling costs, but overseas bonus because of the foreign exchange, bonus overseas have increased. So domestic cost is down, but in particular cost overseas, would you please give us the cost control, including the inflation and also labor cost increase overseas? How are you going to control cost overseas?

[Eiji Sato, executive]

Thank you for your question. To your first question, the current trend of the Retail division. As you have mentioned correctly, the asset-based business, such as the wrap products, we feel strong needs for those types of products. Both the contract amount and the AUM, we see strong momentum continuously. I think stronger momentum in this quarter compared to the last quarter.

On the other hand, when I look at flow revenue, looking at TSE transaction volume in July, the volume was down by about 20% versus the previous quarter. So the sentiment is on the improvement trend, but that has not been reflected yet in the flow transactions. So top stock is doing well, but the flow has not fully recovered yet.

But as the market environment improves, then it should be reflected in the flow. I think on top of the asset AUM recovery, I think flow should show an improvement. And if you look at the stock performance in the retail, which has declined, but we see the improvements from the income cost structure rebound. So we are not going to be relaxed, and we are going to continue to work on the cost-to-income structure rebound in the Retail division.

To your second question about the cost control overseas. On a consolidated basis, if you look at the cost performance year-on-year, SG&A, JPY 2.5 billion or down by -- sorry, increase by JPY 2.4 billion. But FX, JPY 2.8 billion. So on a consolidated basis, excluding that, it's actually down JPY 0.4 billion. But it's not increasing on the local currency basis, but this increase is due to the exchange rate.

So income is up also linked to this increase in the cost due to the exchange rate. But there is a positive impact on the income as well. And also we'd like to secure and retain high performance from the cost perspective. And in terms of headcount overseas, to strengthen our business overseas, we would like to increase a number of headcount. But M&A business is going to be the main focus overseas. So we'd like to reinforce our capability in the M&A business overseas.

Looking at the pipeline differently from last year, when we had amended them, the pipeline is down globally in general, but we have not seen the slowdown of the pipeline in our case. Our pipeline is actually the same level as 2021. So unless there is a certain shift in the market sentiment, I think we can perform continuously well in the M&A business overseas. I hope I answered your question.

[Operator]

So let's go to the next question, Bank of America, Sasaki-san.

[Futoshi Sasaki, analyst]

So in terms of the Market division and the Retail division, I have one question each. So in your explanation, you said that the hedge has not worked. Excuse me, I'm not very -- I'm not expert in this area. So can you explain briefly why the hedge didn't work?

So I think basically, you calculate the gamma or kappa and then you just calculate your hedge. But in this market, the volatility has increased, and the theoretical sensitivity and the actual situation has changed -- was different. Or are you referring about a different thing? Can you elaborate on that point? That's my first question.

The second question is about the fixed income and the -- you talked about the credit spread. So my understanding is that the domestic fixed income, there has some difficult situation. Is that the case? Or if that is the case, some specific sectors or is it across the board? Can you elaborate on that?

In terms of the Retail division, so in terms of the stable income towards the second quarter, is it going to go up stable or go down? If you go to the -- look at the first quarter, there has been a lot of market adjustment. But with a lag, maybe there will be some negative impact. So what was the correlation with the market and about the mix? So in terms of the second quarter, stable income, is it going to go up stable or going down?

[Eiji Sato, executive]

Thank you for your question. First of all, in terms of the derivatives, I think mainly it's a derivative, as you have pointed out, because there are various risks. So with the gamma, that is what we're looking at. But in terms of dynamic hedge, we are using dynamic hedge. So it is very difficult to do a complete hedge. And at the same time, in the existing position, so the flow has gone down dramatically and the liquidity has dried up and the volatility has increased.

So in that sense, so there is a risk level, and then we have applied the dynamic risk in terms of -- we do calculate the sensitivity, but it did not go as this theory or in terms of calculation. In terms of credit, CDS we hedge, but it's not that we can have 100% hedge. And of course, we do calculate the risk volume and conduct the dynamic hedge. But in this case, there was a mismatch. Overall, in terms of credit, well, it's not the case that it was just consolidated in certain types of credit.

And going to the Retail division, the second quarter stable income outlook. So in terms of the stable income, as long as the AUM goes up, it will increase. So if you have a net inflow, for instance June, in terms of fund wrap business, about JPY 30 billion of net inflow has been conducted. If this trend continues, the stable income will continue to grow.

During this first quarter, in terms of investment trusts, the balance has not gone up. But on the other hand, in terms of the -- in terms of the flex, we have been able to go up. So I think on total gone up. So the flex market, as long as it comes stable, I think basically as people are holding back and it will recover. And then it will increase, I think, increase. So in the second quarter, in terms of stable income, in terms of the outcome, I think it will steadily grow going into the second quarter.

[Futoshi Sasaki, analyst]

Understood. A follow-up. So I want to ask, so in the first quarter, so in terms of head position, you were lagging and were able to catch up. And the equity, I think you have not been able to get -- tap into that equity. But if you look at the July market, so if it goes -- it gets recovered. And then even if you don't do anything, you'll be able to come back to your revenue level.

But do you think that July onward will be difficult? So July onwards recovery, how should -- is it outlook? How should we understand about this?

[Eiji Sato, executive]

As you know, on July onwards and onwards volatility has come down. In terms of the performance, when we are struggling in terms of the reason we have been able to understand the reason. So we will adjust the risk volume in those areas. And we have taken candid measures.

In terms of liquidity, it has come back. So how much we can prospect in terms of provision? But in terms of the trend, I think we will be able to go back to the recovery trend.

[Operator]

[Operator Instructions] Next questions are from Nomura Securities, Sakamaki-san.

[Naruhiko Sakamaki, analyst]

My name is Sakamaki-san from Nomura Securities. I have one question. You talked about the pipeline of M&A earlier. But other than that, equity underwriting, debt underwriting, what is our outlook and the pipeline progress for the equity and the debt underwriting business?

[Eiji Sato, executive]

Thank you so much for your question. First, ECM as you know, if you reviewed the results in Q1, it was difficult for large IPOs. So the total funding amount was JPY 2 billion to JPY 3 billion. And mostly companies who did the IPO were companies who were profitable. So the number of IPOs declined quite severely. But looking at the pipeline, in particular, in the second half of the year, we have a good size of the pipeline.

And as we saw in the second half of Q1, there are multiple numbers of companies and the mandate where our companies are increasing the number of shares. So in the second half onwards, I think we can make some recovery.

And the DCM in Q1, we had a stronger impact from the market volatility. From Q4, it turned into a positive issuance amount. But size of the issuance amount in terms of the output level was not so high. So in Japan, the repo effect from the rate hikes and rates are increased and due to the deterioration of the war situation in Russia and Ukraine, there were many cancellations or postponement of funding.

But there are fundamental needs to the funding. And there are funding needs associated with M&A and the size of the mandate is becoming larger. So in Q2 onwards, we expect a higher level of transactions mandates. I hope I answered your question.

[Operator]

[Operator Instructions] So it seems that there are no further questions. We would like to end the Q&A session.

So thank you very much for bearing with us until the very end. So going forward, the Daiwa Securities Group in terms of the -- accelerate the asset management business, and we'll do our best, and I hope that for your full support going forward. Thank you very much for your participation.