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Could the Crisis of Confidence at Deutsche Bank Spell the End?

 

Over the past few weeks, Deutsche Bank has dominated the headlines. Despite being one of Europe’s largest investment banks, its stocks have nevertheless plunged, so that they now sit at an all-time low. Systematically important it may be, but its future has never looked more precarious.

Fear has spread throughout the financial markets like wildfire. Concerns over its liquidity have been persistent, and the worry is that if the German bank fails, the whole global banking system will fall like a chain of unstable dominos. With a bail-out plan rejected, and uncertainty abounding, there seems little left to offer hope.

Where It Began

The Deutsche Bank crisis has primarily arisen over a dispute with America’s Department of Justice. In September, the Wall Street Journal revealed that it faced a fine of up to $14 billion for selling a misrepresented product that contributed to the financial crisis of 2008.

Although the bank itself expects this fine to be capped at a less hysterical $2 to $3 billion, it has continued to concern the markets, raising liquidity fears, and catalysing the removal of accounts from Deutsche Bank by some hedge funds.

What such exits have done is reanimate the ghost of the Lehman Brothers’ demise, with many now afraid that Deutsche Bank will find itself following in the former’s unfortunate footsteps.

When you combine this with continuing lacklustre economic growth across Europe, and the low-to-negative interest rates, its future looks arguably dire.

Industry Malaise

It is not only the looming spectre of the Department of Justice settlement that is counting against Deutsche Bank. It has the added complication of industry malaise to contend with, and this is having a further detrimental impact on its stock price.

As a former Wall Street employee explains: “Globally, the investment banking business is going through a cyclical low with lower trading and lower activity in mergers and acquisitions, IPOs and other corporate actions. Immediate prospects for Deutsche Bank’s bread-and-butter business are therefore not great.”

Will It Fail?

Despite these factors working against it, it may not be time to count Deutsche Bank out of the equation just yet. Writing in a letter to employees, the venture’s CEO, John Cryan, reminded them that the company retains over 215 billion euros in liquidity reserves, and implied that this would be enough to shield them from the vagaries of misfortune.

He wrote: “This is an extremely comfortable buffer. There is therefore no basis for this speculation [about insolvency].”

Jamie Dimon of JPMorgan concurred with this assessment, stating in an interview that: “There is no reason why Deutsche Bank shouldn’t get over its problems. They have plenty of capital. They have plenty of liquidity.”

A Strengthening Position

Although it is impossible to say with any degree of certainty what the bank’s future holds, its financial position already seems to be showing significant signs of recovery.

Indeed, in a stress test conducted by the European Banking Authority, which analysed its financial health under severe adverse economic conditions, it was seen to have strengthened in the last two years. Its improved core capital ratio had increased so that it aligned with those of its German banking counterparts.

Additionally, the firm has backstops to rely on should it require them. The Bank Recapitalisation Program, part of the European Stability Mechanism, can step in and lend it funds even if Angela Merkel is unwilling to.

As expert Stephen Dieckmann explains: “This allows for direct lending to banks seeking financial assistance. It is also because of such instruments that I believe a meltdown of the EU financial system is less likely than it was several years ago.”

On that basis, we would have to conclude thus: Deutsche Bank is not Lehman Brothers, and nor is it likely to follow in its footsteps.