Δευτέρα, 11 Ιουλίου 2016

Dark days flag up challenges for Deutsche Bank


Lender’s shares touch all-time low only days following failure of US arm in stress tests and IMF warning

Deutsche Bank has had a difficult 10 days. Last week, one of its US businesses failed a Federal Reserve stress test for the second year running. Seven days ago, the International Monetary Fund called it “the most important net contributor to systemic risks” of the world’s big banks. Its shares on Friday — which have suffered violent swings all year — hit an all-time low.

Even though they recovered to close the session up 3 per cent, at €11.76, their decline means the market value of Germany’s biggest bank has almost halved in 2016 — and now stands at less than a third of the book value of its assets.

With the UK’s Brexit vote now compounding concerns about slowing growth and low interest rates, Deutsche is far from the only lender to suffer a share price collapse. UniCredit’s shares are down more than 60 per cent this year, Credit Suisse’s have halved, and Barclays’ have fallen more than 30 per cent. Apart from a few fleeting exceptions, Europe’s big banks have traded below book value since mid-2010.

Nonetheless, the relentless fall in Deutsche’s share price represents a striking fall from grace for a bank that was consistently in the top three global investment banks from 2008 to 2014, according to data from Coalition. Last year, it fell to fifth place, and its recent share price fall has rekindled questions over its strategy.

In recent days, it is Deutsche’s trading business that has attracted most attention. Matteo Renzi, Italy’s prime minister, on Wednesday claimed — in an intervention read by some as a swipe at Deutsche — that Italy’s wobbly banks were less of a headache than “the question of derivatives at other banks, at big banks”.

Rival bankers often make similar points, raising concerns about Deutsche’s large stock of “level 3” assets, which are so illiquid that they cannot be valued based on market prices.

At the end of March, the fair value of these assets — which include complex derivatives and loans to private equity deals — was €31bn. This is sharply lower than the €88bn Deutsche held in December 2008, and insiders say that the bank has become “very prudent” in level 3 valuations in the last year.

“There was lots of pressure from 2012, from the US in particular … level 3 got a lot of attention,” says one.

Still, the assets are worth some 70 per cent of Deutsche’s total common equity — a lower level than at Barclays and Credit Suisse, but higher than at Deutsche’s US rivals, JPMorgan, Goldman Sachs, and Morgan Stanley.

Because of the illiquidity of these assets, regulators force banks to hold high levels of capital against them. This makes reducing them an obvious goal for Deutsche as it seeks to shrink its balance sheet and meet capital targets. However, analysts says this is not straightforward.

“In a post-referendum vote world, these [level 3 assets] are going to be harder to sell,” says Amit Goel, banks analyst at Exane.

Yet despite rival bankers’ focus on these more exotic assets, analysts and investors say the biggest challenges for the bank are more prosaic.

“The problem for Deutsche is that they have weak revenues, they have a lot of litigation hanging over them, and they have weak capital,” says one of the bank’s 20 biggest investors.

Deutsche’s capital position has been a longstanding source of concern. In 2013, its then chief executive, Anshu Jain, claimed that, having raised €3bn from investors, Deutsche’s “hunger march” was over. A year later, he went back for a further €8bn. Another two years on, Deutsche’s core tier one capital (CET1) ratio of 10.7 per cent remains lower than most of its peers.

Deutsche’s ratio is still well above the levels demanded by regulators, and will get a boost when the bank books the sale of its stake in Chinese lender Huaxia. But it could still take a hit, and most analysts expect Deutsche to raise capital next year.

Coping with potential hits in future would be easier if the business was throwing off money. But, at the moment, that is not the case. Last year, the bank made a net loss of €6.8bn. This was largely because of litigation costs and writedowns. But Deutsche’s key divisions remain under pressure too.

Its flagship investment bank has been hit by post-crisis regulation and sluggish markets. And its retail and corporate businesses have been hit by rock-bottom interest rates. By curbing dealmaking and pushing an interest rate rise further into the future, Brexit is likely to intensify this pressure.

In an attempt to address its weaknesses, chief executive John Cryan last year spelt out a new strategy. Over the next five years, the bank will sell its Postbank retail banking business, offload assets, make €3.5bn in cost savings, and exit 10 countries. Its goal is a return on tangible equity of at least 10 per cent and a CET1 ratio of at least 12.5 per cent by the end of 2018.

On top of this, Mr Cryan has radically overhauled the bank’s top management, and tightened its procedures for taking on clients in an effort to get better control of the risks that it runs.

However, while Deutsche has always insisted that its turnround will be a multiyear undertaking, some analysts think it should do more.

Kian Abouhossein, analyst at JPMorgan, forecasts that Deutsche’s revenues will fall by 13 per cent, and says it must cut back. “When you have 100,000 staff and 30,000 consultants you can easily cut more costs,” he says.

Others say the bank could offload more assets. Neil Smith, from Bankhaus Lampe, says that, with the sale of Postbank slipping into next year, Deutsche could try to sell some of its mortgages to insurers.

But others are sceptical that further asset sales are the answer. “Scope to cut assets is limited by the need to stay in business and generate profits,” says Jernej Omahen, of Goldman Sachs. “We do not believe that cutting assets beyond what is currently announced would be viewed as a solution by the market. Rather, it would be viewed as impairing its operating profitability.”

Indeed, perhaps the biggest difficulty for Deutsche’s top brass is that are few alternatives if the current strategy fails to yield the desired results. Unlike UBS, which was able to drastically scale back underperforming parts of its investment bank and regroup around its profitable wealth management business, Deutsche’s strength is its investment bank. Its other businesses — in asset management and transaction banking — lack the scale to be the main focus.

“There’s not much else they can do but wait things out,” says the top 20 investor. “They have to get their litigation sorted, and hope that markets recover and they can start earning money again.”

Upbeat forecasts represent a low bar

In its forecasts for 2016, Deutsche Bank said litigation would continue to be a “burden”, but was expected to be “below 2015 levels”. For Germany’s biggest lender, this target represents a low bar, write Caroline Binham and Martin Arnold.

Last year, Deutsche revealed it was facing 7,000 separate lawsuits and regulatory actions, causing it to book litigation charges of €1.2bn, and provisions of €5.2bn — some of the largest sums set aside by European banks.

In its most recent set of results, a listing of just a selection of its outstanding legal and regulatory matters runs to 10 pages. But even with such a caseload to choose from, some matters still stand out: a joint US-UK probe into $10bn of so-called mirror trades suspected of skirting Russian sanctions; ongoing US investigations into the rigging of foreign-exchange benchmarks, with related putative class actions; a new US probe into the hiring of influential “princelings” in Asia; and a three-year US inquiry into the mis-selling of mortgage-backed securities, which has civil lawsuits trailing in its wake.

However, such is the extent of Deutsche’s legal difficulties that even the slightest piece of good news on this front can enthuse investors.

Despite reporting a 58 per cent fall in net profit, the company’s shares rose 4 per cent on the day of its first-quarter results in April — simply because litigation charges were not as bad as feared.

It added that its current legal provisions stood at €5.4bn.

Against this, JPMorgan analysts put its likely hit from extra legal costs at €3.4bn over the next three years. “If litigation settlements are in line with their reserves, it would be a big positive for their share price,” says JPMorgan analyst Kian Abouhossein.


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