BNP ParibasA strong balance sheet and credit rating have enabled BNP Paribas to grow its credit derivatives business rapidly

BNP Paribas does not have the world’s largest credit derivatives business. Depending on how it is measured, that honour probably lies with JPMorgan, although Deutsche Bank and Goldman Sachs are also bigger players. However, the French bank is on a rapid upwards trajectory, using its strong balance sheet and credit rating to good effect in the aftermath of the crunch.

“Our correlation book is one of the biggest. Our flow business is fully functioning,” says Joe Lovrics, head of structured credit sales, pointing to the bank’s abilities in the indices and tranches. “A lot of the problems [in finance] are mostly centred on the cash market. That plays well to our strengths. It is right that the transition in credit derivatives plays into synthetics, and into investment-grade markets… The correlation market is here to stay.”

Issuers, credit investors and investment banks have had to adapt rapidly to the change in global credit market conditions. Volatile and illiquid markets, and the shift of emphasis from cash to synthetic credit products and from large high-profile public transactions to private ones (including CDO restructurings, unwinds, and regulatory- and tax-driven transactions), mean that only a few banks can still offer meaningful credit derivatives solutions. BNP Paribas is one. Its bankers make great capital out of the fact that it is one of the few remaining AA+ rated banks. None of the other players active in credit derivatives enjoys as high a rating. Concerns about counterparty risk continue to afflict the credit derivatives market, so BNP Paribas is picking up business specifically because this strength.

So while other firms are running for cover, BNP Paribas has become a much bigger part of the picture. Nor is it stepping away from what it feels it does best. “Correlation remains the basis of our business. Our models have held and are robust,” says Benjamin Jacquard, head of structured credit trading. “Derivatives is at the essence of this bank.” He points to the continuing commitment that the bank has made to structuring, research, sales and trading.

This commitment is also doing wonders for BNP Paribas’ US business where it has also performed strongly and is growing rapidly, albeit from a more modest base. “We are building this business as other people withdraw. We see this as a tremendous opportunity, largely because we were not large players in the cash ABS business,” says Patrick McKee, head of structured sales Americas.

Despite market uncertainty, BNP Paribas has continued to maintain balance sheet strength and a strong credit rating. Combined with its reputation for technical expertise and stringent risk management, the bank is well positioned to provide innovative, customized solutions to help clients restructure and manage their credit positions, finance themselves effectively and take advantage of market opportunities.

“A large part of our business has been restructuring of synthetic trades. That has led us to have more restructuring opportunities than other dealers. That’s a big reason why BNP has been the number one counterparty for bespoke CDOs for the last two quarters,” says McKee.

Before the credit crunch, winning business in credit derivatives was about being the first to get to the clients with an offering. BNP Paribas bankers say this has changed and now clients come to them. So while many competitors have retrenched, BNP Paribas’ commitment to flow and structured credit has provided it with opportunities to take on the restructuring and risk management needs of its clients

Last summer’s credit crisis and subsequent market dislocations have left many clients facing underwater positions, notably on CDO products. BNP Paribas has developed innovative restructuring solutions to improve the risk/return profile of its clients’ exposures, by using credit market opportunities such as wider spreads, higher correlation, value in senior tranches or shorter maturities.

Sometimes BNP Paribas has sought to create extra subordination in CDO tranches to offer greater protection against increasing defaults, by using a capital structure switch. Another technique is to reduce clients’ exposure to reference entities with high implied default probability in the CDO portfolio by substitution with better names.

Another stream of business has come about through the implementation of the new banking regulatory accord. BNP Paribas was an early adopter of Basle II and its experience is heavily influencing some of the more innovative trades that the bank is conducting with European credit portfolio managers

“We saw that credit portfolio managers were getting more active,” says Antoine Chausson, head of portfolio management solutions.

These Basle II transition trades have taken off since February and help CPMs to monetize the increase in value of senior swap protection, which was driven by an increase in correlation.