Deutsche Bank taking its toll on the Europe’s economy - BBH

Research Team at BBH, suggests that the start of this week will likely be driven by Deutsche Bank's travails which is having a severely affecting the health of the european economy.

Key Quotes

“Deutsche Bank is faced with two challenges: its business and several outstanding legal cases.  It is well appreciated that the European bank business model has broken down, even as the low and now negative interest rate environment is exacerbating the problems.  An important distinction, however, is that while European banking problems (as in Greece, Italy, Portugal, and Spain) are often made acute by their nonperforming loans, this is not Deutsche Bank's issue.  Only a quarter of its assets are tied to loans, according to reports.  

The bank had what accountants euphemistically call negative revenue last year, which means it lost money (~7.7 bln euros or ~$8.6 bln).  There is a 35 bln euro (~$39.4 bln) gap between the market value of the bank and the bank's value of its tangible assets.  The bank failed to pass two consecutive stress tests conducted by the Federal Reserve.  Earlier this year, the IMF identified the bank as the single largest source of global financial systemic risk.

It is the bank's legal problems that are the source of the immediate pressure, and roiling the markets.  There are three numbers that have caught investors' attention: 6, 14, and 16.   The bank's litigation reserves are reportedly near 6 bln euros (~$6.75 bln).  The Department of Justice has proposed $14 bln fine for fraudulent practices relating to the issuance packaging, securitization, and sales of residential mortgage-backed securities.  The market capitalization of the bank is roughly 16 bln euros (~$18 bln).

For the wrongdoing in the residential mortgage space, some banks have been fined more and some less than the Deutsche Bank's $14 bln fine.  Reports suggest that the level of the fine is not simply a function of the damage inflicted, but also the bank's cooperation.  In addition, Deutsche Bank has been involved in several other cases, and according to Bloomberg, has paid more fines than any other bank since 2008.

An unconfirmed report before the weekend, claiming that Deutsche Bank's fine would be negotiated down to $5.4 bln, saw a dramatic collective sigh of relief.  Risk assets, including Deutsche Bank stock, financials, and equity markets, were propelled higher.  The dollar reversed earlier gains that had sent the euro to new lows for the week.  Investors will be sensitive to whether this report is confirmed.”