Deutsche: Big bank's troubles

Article published in Katoikos

The German bank is under negotiations with the US Department of Justice over implications on the financial crisis.  

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The biggest German bank is on the spotlight after being requested to pay a €14 billion fine to the United States Department of Justice (DoJ). The markets are nervous over the bank’s financial conditions and whether Deutsche Bank will need a bailout.

The fear of a banking bust is looming again after ten hedge funds pulled out of the Deutsche Bank their significant assets last week. The markets are growing jittery, as we are talking about the biggest bank in Germany, the shares of which dropped by 8% after the startling DoJ’s announcement on September 15th.

The pressure started in mid-September, after the DoJ imposed a $14 billion fine (€12 billion) to the German giant for its mortgage lending activities during the housing bubble before the 2008 financial crisis. In response, the bank issued an urgent statement confirming negotiations with the DoJ to reduce the forfeit. Further  reports suggested that the Deutsche Bank may only pay $5.4 billion in the settlement with the DoJ.

Investors are now speculating whether the German government will bail out the struggling bank, though according to Frankfurter Allgemeine, such a bailout is unlikely given the current political situation in both the European Union and Germany. "Of course Chancellor Merkel doesn't want to give Deutsche Bank any state aid," the German media wrote. "She cannot afford it from the point of view of foreign policy because Berlin is taking a hard line in the Italian bank rescue," reported the German newspaper.

Deutsche Bank’s reaction

Deutsche Bank CEO John Cryan sent an email to his 100,000 employees reassuring them of the firm’s financial soundness. In addition, the bank delivered a message to both Bloomberg and the Financial Times stating:

"Our trading clients are amongst the world’s most sophisticated investors. We are confident that the vast majority of them have a full understanding of our stable financial position, the current macroeconomic environment, the litigation process in the US and the progress we are making with our strategy."

Unfortunately for the banking sector’s reputation, history has showed that these types of messages have no credibility, as proven during the 2008 financial crisis, which started with the collapse of Lehman Brothers. Indeed, on March 14, 2007, a day after the Lehman’s stock had its major one-day drop following five years on concerns that increasing defaults would impact the profitability of the bank, the investment bank reported record revenues and profit for its fiscal first quarter.

The shock through the eyes of analysts

According to Jacob Funk Kirkegaard from the Peterson Institute for International Economics (PIIE), “Deutsche Bank’s current business model is unsustainable—it simply cannot be allowed to continue to operate with a trillion-and-a-half-euro ($1.69 trillion) balance sheet and just a few tens of billions of euros in equity.” However, Kirkegaard considers that “this is not another Lehman Brothers moment” thanks to the access the bank has to unlimited liquidity from the European Central Bank.

On the same note, Bryan Rich wrote a piece for Forbes stating that “Deutsche Bank is "too big to fail”, based on past promises from ECB’s president Draghi on doing “whatever it takes” to save the euro. “Letting Deutsche Bank go would undo trillions of dollars of central bank intervention and years of global economic recovery,” noted Rich.

On the other hand, KBW analyst Frederick Cannon thinks Deutsche Bank’s troubles might represent a darker future. "While the near-term issue is the potential for a settlement with the US Department of Justice, the longer-term issue is the depressed level of profitability of the bank and their inability to grow capital through earnings or raise capital in the market," said the analyst in a research note. 

However, besides the losses we have come to recently learn, speculation is all we have for now. All eyes are on the soon-to-be-released outcome of the negotiations between the DoJ and the Deutsche Bank, and on the position to be taken by the German government.