NEW YORK (Reuters) – Some senior Deutsche Bank AG (DBKGn.DE) officials have discussed the possibility of putting additional problematic assets worth billions of euros into a unit it created earlier this year, if the bank is able to sell assets already held within that “bad bank,” according to three bank sources.FILE PHOTO: A man walks past an office of Deutsche Bank in Hanau, Germany, April 27, 2015. REUTERS/Kai Pfaffenbach
The discussions in recent weeks, which have not been previously reported, are preliminary, the sources said, adding that there is nothing imminent. A Deutsche Bank spokesman said the bank has no plans to add additional assets into the so-called capital release unit, or bad bank.
Nevertheless, it is one of the options that has come up for discussion at the highest levels at the bank, as executives grapple with the problem of having to turn around the bank on a tight budget, according to the three people familiar with the talks.
Deutsche Bank needs more capital to be able to absorb the losses that will likely come from shedding problematic assets, such as long-dated derivatives, that are still on its books, the people said.
But, after raising 29.3 billion euros ($32.3 billion) in capital over the past nine years, it does not have room to ask investors for more, the sources added.
For investors, still nursing a 75% fall in the bank’s share price over the past four-and-a-half years, it means that the road to recovery for the bank will most likely be long.
Christian Sewing, who took over from John Cryan in April last year, is looking to reshape Deutsche Bank after a multi-year bet on building a global investment banking business unraveled.
In July, he set up the bad bank, called a capital release unit (CRU), to house 74 billion euros of risk-weighted assets the bank had identified for wind-down or sale, part of a broader restructuring that will see 18,000 jobs go as it exits unprofitable businesses. Deutsche Bank set aside a 7.4 billion euro budget to fund the restructuring.
Some analysts have been skeptical whether the plan fully recognizes the extent of the problem assets still sitting on Deutsche Bank’s balance sheet. They remain particularly concerned about its exposure to Level 3 assets, which are the most illiquid and hard-to-value.
“It’s a partial clean-up,” said David Hendler, an independent analyst at New York-based Viola Risk Advisors. Hendler added that Deutsche Bank has 18 billion euros in hard-to-value assets on its balance sheet, which he estimated will take years to offload.
“They’re trying to paint a picture of progress but there’s still a lot of sludge in there,” he said.
Level 3 assets, which can include distressed debt and derivatives, are not necessarily loss making.
Deutsche Bank has said that the CRU’s focus is on releasing capital rather than ring-fencing toxic assets. In a memo to staff on July 8, Sewing described the assets within it as “high quality” and said most were of a short duration.
Only 30% of Deutsche Bank’s 25 billion euros worth of Level 3 assets have so far been placed within the capital release unit, according to a presentation the bank gave alongside its quarterly results in July.
The bank has tried to shed some of those assets, which include longer-dated derivatives, over the past three years. But it had little success because it was not prepared to take the writedowns the sales would have required, the sources said.
A sale of a financial asset can lead to a capital hit if the price is below what the bank values it at on its books, leading to a loss.
Deutsche Bank must stay within the budget it has set for its restructuring to avoid having to raise funds from investors, the sources said.
It set up the capital release unit with a view to shedding assets it could realistically find buyers for or wind-down in the next two to three years, the sources said. That, in turn, would free up capital to fund the sale of longer-term assets that will require bigger writedowns, the sources said.
Of the assets currently in the unit, Deutsche Bank plans to run a formal auction of its equity derivatives book as soon as this month, several sources familiar with the sale process have told Reuters. If those sales are successful, the bank could move more assets into the restructuring unit, the three sources close to the bank said.
(IrishTimes) New rules over holiday entitlements and end to service awards for staff outside Germany
Deutsche Bank office in Venice
Deutsche Bank has angered an already nervous overseas workforce by tightening holiday rules and ending long-service awards for its 50,000 staff outside Germany.
A ban on carrying forward unused annual leave at the end of the year has been imposed with immediate effect, leaving workers little time to rearrange their holiday plans, while 10, 25 and 40-year service awards will be ditched from October.
“While these changes may be disappointing, we can assure you that we remain committed to offering competitive benefits and effective initiatives that support your health and wellbeing, enabling you to be the best you can in your professional lives,” Deutsche’s UK chief executive Tiina Lee and UK head of human resources Rachel Blanshard wrote in an email to staff.
According to its website, Deutsche Bank employs more than 650 people in Dublin.
The policy shift comes at a fraught time for employees of Germany’s largest lender, with 18,000 jobs set to disappear under one of the most radical investment bank restructurings since the global financial crisis.
It rankles particularly because it does not apply to Deutsche’s 41,000 employees in its home market, who can carry forward up to 10 days of holiday into the first three months of the subsequent year and will still receive service awards.
“There’s no loyalty at Deutsche any more,” said one senior overseas manager. “The cash awards are not massive but are nice to have. Between that and cutting back on carrying over holidays it really hasn’t helped the mood.”
The benefit changes are part of Deutsche’s “cost catalyst” initiative, according to the email, as reported by the Financial Times, and will help the bank reduce expenses as accounting rules force companies to build provisions for holiday entitlements that are carried forward from one fiscal year to the next.
One person familiar with the lender’s internal discussions said German employment law made it harder to change employee entitlements in the country retrospectively.
Deutsche’s sweeping shake-up announced just over a month ago is well under way. By the end of July, about 900 staff had been fired or given notice. One person briefed on the bank’s next steps said it was planning to step up job cuts significantly by the end of September.
Senior staff expect the axe to fall first on jobs in the UK and the US, where flexible employment protection laws and weak unions make it cheaper and easier to fire employees.
Deutsche Bank is undergoing one of the most dramatic banking overhauls we have seen since the 2007-2008 financial crisis. So why is the lender, which was once touted as Europe’s answer to Wall Street’s titans, cutting back? CNBC’s Timothyna Duncan breaks down the bank’s history and its strategies to rebuild.
Deutsche Bank is reviewing whether it allowed confidential client data to be compromised by former employees who were laid off earlier this month, the Financial Times reported Sunday.
Approximately 50 former traders from Deutsche’s London and New York offices were able to access the bank’s systems and their emails in the weeks that followed the lender’s first round of layoffs, the newspaper reported. One individual formerly involved in equity sales sent around 450 messages via remote access after she was laid off, according to the report.
The internal probe, lead by the bank’s global compliance chief Jeremy Kirk, will seek to determine whether ex-bankers accessed price-sensitive data and whether current employees aided their former colleagues in obtaining such information, according to the report.
“Access to trading systems was turned off immediately for employees being put at risk of redundancy,” the bank told the FT. “A small number of employees continued to have access to their work emails through personal devices for a limited period.
“We have reviewed nearly all emails sent and have so far found no evidence of any price sensitive information being communicated or of any other wrongdoing,” the bank told the news outlet.
The troubled lender is in the process of eliminating some 18,000 positions, or roughly a fifth of its workforce, as it attempts to shed unwanted assets and overhaul its compliance efforts, FT said. As part of that effort, Deutsche is investing €4 billion in its internal controls and combining its anti-money laundering, risk and compliance functions, the newspaper said.
Deutsche Bank has, in recent months, been implicated in a series of financial crime scandals, including over its alleged role in handling money embezzled from the Malaysia state-owned investment fund 1MDB and over its purported failure to file suspicious activity reports linked to US President Donald Trump and his son-in-law Jared Kushner.
FRANKFURT (Reuters) – Deutsche Bank (DBKGn.DE) reported a bigger than forecast quarterly loss of 3.15 billion euros ($3.5 billion), underlining the challenges faced by Chief Executive Christian Sewing as he attempts to turn around the struggling business.
Germany’s largest bank had already flagged it would lose around 2.8 billion euros in the quarter when it announced a restructuring plan that will see 18,000 jobs go and cost 7.4 billion euros overall.
The size of the loss, compared with a profit of 401 million euros a year ago, prompted the bank’s shares to slide as much as 5.8% in Frankfurt before regaining some ground. The bigger loss stemmed from higher goodwill impairment charges than foreseen when the bank announced its restructuring on July 7.
As it reshapes, the bank expects to post a loss in 2019, meaning that it will have been in the red for four out of the past five years. But it is aiming for profit in 2020.
The bank also anticipates 2019 revenue to be lower than in 2018. That forecast marks a further scaling down in expectations from previous quarters.
Founded in 1870, the bank is considered one of the most important for the global financial system, along with U.S. heavyweights JPMorgan Chase, Bank of America and Citigroup.
But Deutsche has been plagued by losses and scandal, prompting it to embark on one of the biggest overhauls to an investment bank since the aftermath of the financial crisis.
CEO Sewing said on Wednesday that the bank had already taken significant steps in implementing the strategy. More than 900 employees had given notice or been told they would be made redundant from a bank that had around 91,500 employees.FILE PHOTO: The logo of Deutsche Bank is pictured on a company’s office in London, Britain July 8, 2019. REUTERS/Simon Dawson
In a note to staff, Sewing said that the lender’s underperforming investment bank faced “strong headwinds” in the quarter, including questions about the bank’s future that spooked clients.
“Now we can look ahead with more optimism,” he wrote.
TALE OF WOE
Deutsche’s troubles peaked with a $7.2 billion U.S. fine in 2017 for its role in the mortgage market crisis, in a major blow that caused clients to flee.
A new leadership, with Sewing at the helm since last year, has tried to revive Deutsche’s fortunes, but problems have persisted.
In April, the bank called off nearly six weeks of talks to merge with cross-town rival Commerzbank (CBKG.DE).
It then embarked on a plan for “tough cutbacks” to its investment bank, representing a major retreat from investment banking for Deutsche Bank, which for years had tried to compete as a major force on Wall Street.
Net revenue in the quarter fell 6% to 6.2 billion euros. Revenue at Deutsche’s cash-cow bond-trading division dropped 4% in the quarter, while equities sales and trading revenue dived 32%.
The declines underscore the continued weakness at the lender’s investment bank, which saw an 18% drop in net revenues during the period.
“I could make excuses,” about the division’s performance, Sewing told analysts. But “this simply doesn’t matter. We must do better and we will do better.”FILE PHOTO: The logo of Deutsche Bank is on display ahead of the bank’s annual shareholder meeting in Frankfurt, Germany, May 23, 2019. REUTERS/Kai Pfaffenbach/File Photo
RBC Capital Markets wrote that Deutsche’s earnings illustrated the “long road until we have visibility on the many stepping stones” to a turnaround.
Among details of the overhaul announced earlier this month, Deutsche said it planned to scrap its global equities business and scale back its investment bank. It also reshuffled management.
The bank will set up a new so-called “bad bank” to wind down unwanted assets, with a value of 74 billion euros of risk-weighted assets.
Reuters reported on Tuesday that it will take years to shed those unwanted assets, tying up capital that could have generated income of 500 million euros a year.
Preparations to auction unwanted equity derivatives are “well advanced”, the bank’s finance chief told analysts.
Some investors have said they doubted these moves would be enough to turn around its flagging fortunes in the face of intense competition and low interest rates.
Others investors have said they were worried Deutsche Bank would backtrack on a pledge not to tap shareholders for additional cash, particularly in view of its capital constraints.
“I really can’t say that I see the positives in this plan. I remain a bitter curmudgeon,” said Barrington Pitt-Miller, portfolio manager at Janus Henderson Investors.
(BBG) At the heart of Chief Executive Officer Christian Sewing’s turnaround plan for Deutsche Bank AG is a contrarian bet: that he can cut spending on technology while gaining ground on the competition.
Even with the digital revolution in finance accelerating, Deutsche Bank expects to trim its annual outlays on tech to 2.9 billion euros ($3.3 billion) in 2022 from a peak of 4.2 billion euros this year.
“Deutsche Bank would probably love to be spending more on technology, but they need money for other parts of their restructuring,” said Pierre Drach, managing director of Independent Research in Frankfurt. “It’s pretty much impossible for European banks to catch up with the Americans at this stage.”
Sewing’s team says it’s made progress in fixing information networks that his predecessor called “antiquated and inadequate.” Years of expansion left it with systems that couldn’t communicate with each other and didn’t adequately track its business. The bank, which has spent almost $18.5 billion on legal settlements and fines since 2008, has also suggested that the past breakdown in controls stemmed in part from weak systems.
The 4.2 billion euros Deutsche Bank has budgeted this year to maintain and modernize its systems represents a fraction of the $11.5 billion JPMorgan Chase & Co. shells out. “You have to spend to win” with new technologies, Jamie Dimon, the bank’s CEO, said Tuesday.
The gap is set to widen as the German chief executive wants to cut technology costs by almost a quarter. European banks, meanwhile, are forecast to increase tech spending at a 4.8% annual rate through 2022, according to the consulting firm Celent.
“We continue to invest in IT to serve clients better, become safer, more efficient and better controlled,” Senthuran Shanmugasivam, a Deutsche Bank spokesman, said in response to questions from Bloomberg. “Despite our smaller footprint, our investment plans in 2019 are broadly unchanged as we reallocate resources to our core businesses.”
It’s all part of a retrenchment Sewing announced last week to exit equities sales and trading and eliminate 18,000 jobs. Deutsche Bank aims to cut adjusted costs to 17 billion euros in 2022 from 22.8 billion euros last year; the share of technology expenses would remain stable over that time period.
The company can modernize systems while spending less, for example by moving most of its applications to the cloud, according to Frank Kuhnke, who oversees its technology. He said Deutsche Bank has already cut the cost of crunching data by more than 30% since 2016 even as it increased computing capacity by about 12% a year to meet regulatory demands.
Still, Deutsche Bank needs “to make a further step change in embracing technology,” Sewing told analysts last week.
The CEO has brought in new talent to do that. Bernd Leukert, who left the management board of software company SAP SE earlier this year, will start in September. Neal Pawar will join as chief information officer from AQR Capital Management the same month.
Hiring outsiders hasn’t been a panacea in the past. Kim Hammonds, a former Boeing Co. executive, spent about four and a half years rebuilding the bank’s systems only to be ousted in 2018 after reportedly calling the bank “the most dysfunctional company” she’d ever worked for.
Deutsche Bank expects its retrenchment from businesses to allow it to focus on its core operations. It will also save about 300 million euros by 2022 by shedding almost 5,000 external IT contractors and replacing them with internal staff at a lower cost. The integration of consumer lender Postbank will avoid duplication of expenses.
The digital revolution is upending all aspects of finance — from taking deposits to bond trading, a traditional Deutsche Bank strength. Citigroup Inc. has created a fintech division to invest in debt-market technologies while Spain’s Banco Bilbao Vizcaya Argentaria SA has created a unit to automate trade processes and generate intelligence from data. Dutch bank ING Groep NV has used artificial intelligence to win 20% more bond trades and cut costs.
Cutting tech costs is also notoriously difficult.
A three-year initiative announced in 2012 failed to stop technology spending from ballooning 44% by 2015. That was the year that then-CEO John Cryan said he would reduce the number of operating systems from 45 to four in 2020. Deutsche Bank still has 26, Sewing told investors in May. He kept the goal of eventually cutting them to four, but says the lender will need to run 10 to 15 systems for the foreseeable future.
“Everyone knows that Deutsche Bank’s systems are a mess and I think they will have to end up spending more,” said Drach. “The fact that their new technology head hasn’t come on board yet gives them a good narrative for increasing the ultimate amount.”
As Deutsche Bank shutters its trading business, the German lender is doubling down on wealth management.
The firm is offering lucrative pay packages to entice a team of 13 bankers from Credit Suisse in Italy to focus on ultra-wealthy clients worth at least $30 million, according to a report from the Financial Times.
An industry insider told the FT that Deutsche Bank is paying “danger money” to bring the bankers on board by offering to match their 2018 bonuses and raise their salaries by up to 40%.
The firm announced last week that it planned to lay-off 18,000 employees amid a major shakeup that would take the bank out of the equities trading business.
Roberto Coletta, the current head of ultra-high net worth individuals at Credit Suisse’s Italy operation, is expected to run the team, the FT reported. Claudius de Sanctis, the head of Deutsche Bank’s Wealth Management practice in Europe, left Credit Suisse last year to join the firm.
According to the FT, another two senior bankers from Credit Suisse joined Deutche Bank’s London office in June. Sanctis told the FT that the new wealth management hires were made at the market price.
“We have a great story to tell and when you have great story to tell you don’t need to pay over market price,” Sanctis said to the FT.
(ZH) There is a reason James Simons’ RenTec is the world’s best performing hedge fund – it spots trends (even if they are glaringly obvious) well ahead of almost everyone else, and certainly long before the consensus.
That’s what happened with Deutsche Bank, when as we reported two weeks ago, the quant fund pulled its cash from Deutsche Bank as a result of soaring counterparty risk, just days before the full – and to many, devastating – extent of the German lender’s historic restructuring was disclosed, and would result in a bank that is radically different from what Deutsche Bank was previously (see “The Deutsche Bank As You Know It Is No More“).
In any case, now that RenTec is long gone, and questions about the viability of Deutsche Bank are swirling – yes, it won’t be insolvent overnight, but like the world’s biggest melting ice cube, there is simply no equity value there any more – everyone else has decided to cut their counterparty risk with the bank with the €45 trillion in derivatives, and according to Bloomberg Deutsche Bank clients, mostly hedge funds, have started a “bank run” which has culminated with about $1 billion per day being pulled from the bank.
As a result of the modern version of this “bank run”, where it’s not depositors but counterparties that are pulling their liquid exposure from DB on fears another Lehman-style lock up could freeze their funds indefinitely, Deutsche Bank is considering how to transfer some €150 billion ($168 billion) of balances held in it prime-brokerage unit – along with technology and potentially hundreds of staff – to French banking giant BNP Paribas.
One problem, as Bloomberg notes, is that such a forced attempt to change prime-broker counterparties, would be like herding cats, as the clients had already decided they have no intention of sticking with Deutsche Bank, and would certainly prefer to pick their own PB counterparty than be assigned one by the Frankfurt-based bank. Alas, the problem for DB is that with the bank run accelerating, pressure on the bank to complete a deal soon is soaring.
Here are the dynamics in a nutshell, (via Bloomberg): Deutsche Bank CEO Christian Sewing is pulling back from catering to risky hedge-fund clients, i.e. running a prime brokerage, as he attempts to radically overhaul the troubled German lender while BNP CEO Jean-Laurent Bonnafe wants to expand in the industry. A deal of this magnitude would be a stark example of the German firm’s retreat from global investment banking while potentially transforming its French rival from a small player in the so-called prime-brokerage industry to one of Europe’s biggest.
Of course, publicly telegraphing that DB is in dire liquidity straits and needs an in-kind transfer of its prime brokerage book would spark an outright panic, and so instead the story has been spun far more palatably, i.e., “BNP is providing “continuity of service” to Deutsche Bank’s prime-brokerage and electronic-equity clients as the two companies discuss transferring over technology and staff“, according to a July 7 statement. The ultimate goal of the talks is for BNP to take over the vast majority of client balances, which are slightly less than $200 billion currently.
There is just one problem: nothing is preventing those clients who would be forcibly moved from a German banking giant to a French banking giant from redeeming their funds. And that’s just what they are doing. Or rather, nothing is preventing them from moving their exposure for now, which is why they are suddenly scrambling to do it before they are suddenly gated.
Which is why the final shape of the deal remains, pardon the pun, fluid, and it is unclear how it will proceed, facing a multitude of complexities, including departing clients.
In an attempt to stop the bank run, BNP executives are meeting with U.S. hedge-fund clients this week to convince them to stay following similar sit-downs with European funds last week, Bloomberg sources said.
However, if this gambit fails, and hedge funds keep moving their business elsewhere, officials at the German bank may just relegate its assets tied to the prime finance division into the newly formed Capital Release Unit, i.e. the infamous “bad bank” which is winding down unwanted assets totaling 288 billion euros ($324 billion) of leverage exposure, and the prime brokerage is responsible for much of the 170 billion euros of leverage exposure that’s coming from the equities division into the division, also known as CRU a presentation shows.
It also means that countless hegde funds are suddenly at risk of being gated on whatever liquid exposure they have toward Deutsche Bank.
To be sure, Deutsche Bank’s hedge fund balances have been declining throughout the year as speculation swirled around Sewing’s intentions for the prime brokerage, but the rate of redemptions was far lower than $1 billion per day. Now that the bank jog has become a bank run, the next question is how much liquidity reserves does DB really have and what happen if hedge funds clients – suddenly spooked they will be the last bagholders standing – pull the remaining €150 billion all at once.
We are confident we will get the answer in a few days if not hours, until then please enjoy this chart which compares DB’s stock decline to that of another bank which was gripped by a historic liquidity run in its last days too…
(Reuters) – The U.S. Justice Department is investigating whether Deutsche Bank AG (DBKGn.DE) violated foreign corruption or anti-money-laundering laws in its work for state fund 1Malaysia Development Berhad (1MDB), the Wall Street Journal said on Wednesday.The logo of Deutsche Bank is pictured on a company’s office in London, Britain July 8, 2019. REUTERS/Simon Dawson
The news comes after the bank announced plans to scrap its global equities unit, cut some fixed-income operations and slash 18,000 jobs globally in a 7.4-billion-euro ($8.34 billion) restructuring program.
Deutsche Bank’s work for 1MDB included helping to raise $1.2 billion in 2014 as concerns about the fund’s management and financials had begun to circulate, the newspaper said, citing unidentified people familiar with the matter.
Prosecutors are mainly looking into the role of Tan Boon-Kee, a colleague of a former Goldman Sachs Group Inc executive, Tim Leissner, who worked with him on 1MDB-related business, the paper said.
She left Goldman to become Asia-Pacific head of banking for financial institutions clients at Deutsche Bank, where she was involved with further 1MDB dealings, it added.
In an emailed statement, Deutsche Bank said it had fully cooperated with all regulatory and law enforcement agencies that made inquiries about the fund.
“As stated in asset forfeiture complaints filed by the U.S. Department of Justice, 1MDB made ‘material misrepresentations and omissions to Deutsche Bank officials’ in connection with 1MDB’s transactions with the bank,” the bank told Reuters.
“This is consistent with the bank’s own findings in this matter,” it added.
A U.S. DoJ civil asset-forfeiture complaint repeatedly describes Deutsche Bank as being misled by 1MDB officers, the WSJ said.
Tan left Deutsche Bank last year, after it discovered communications between her and Jho Low, the Malaysian financier the Justice Department has described as the central player in the 1MDB scandal, it added.
A representative of insurance company FWD Group, Tan’s current employer, said the company and Tan declined to comment.
The DoJ did not immediately respond to a request for comment from Reuters.
At the end of the day, all of the frenzied whispers in the press about Deutsche Bank CEO Christian Sewing’s sweeping restructuring hardly did it justice. Instead of moving slowly, the bank started herding hundreds of employees into meetings with HR, first in its offices in Asia (Hong Kong, Sydney), then London (which got hit particularly hard) then New York City.
By some accounts, it was the largest mass banker firing since the collapse of Lehman, which left nearly 30,000 employees in New York City jobless. Although the American economy is doing comparatively well relative to Europe, across the world, DB employees might struggle to find work again in their same field.
According to Bloomberg, automation and cuts have left most investment banks much leaner than they were before the crisis, and the contracting hedge fund industry, which once poached employees from DB’s equities business, isn’t much help. Some employees will inevitably find their way to Evercore, Blackstone – boutique investment banks and private equity are two of the industry’s top growth areas – or family offices, which, thanks to the never-ending rally in asset prices (and the return of bitcoin), are also booming.
Oh, and of course, there’s always crypto. Some evidence has surfaced to suggest that many young bankers are already looking to make the leap.
For the highest-paid employees being let go this week, many will need to get used to lower pay. Some 1,100 ‘material risk takers’ have been let go. On average, they earned $1.25 million, with almost 60% of that in cash.
“A lot of these people are going to have to get used to less compensation,” said Richard Lipstein, managing director at recruiting firm Gilbert Tweed International, in a telephone interview. And “the percentage of compensation in cash is lower than it used to be.”
Many will need to leave the street, and possibly whatever city in which they are currently living, to find work elsewhere.
“A lot of the people coming out of DB are going to be very challenged to find jobs just because of the sheer change in the equity business,” said Michael Nelson, a senior recruiter at Quest Group. “When you are dispersing that many people globally, some of those people might have to leave the business.”
But although banking headcount has never returned to its pre-crisis levels…
…at least one major Wall Street institution is looking to hire some Deutsche people: Goldman Sachs.
While BBG’s piece on the layoffs focused on the difficulty these employees may face in finding new work, Reuters described the scene outside these offices, where one insider had warned about “Lehman-style” scenes. To wit, some just fired workers could be seen mulling outside, taking photos with colleagues and splitting cabs, presumably to go to the nearest pub and quaff liquor, beer and prosecco.
Staff leaving in Hong Kong were holding envelopes with the bank’s logo. Three employees took a picture of themselves beside a Deutsche Bank sign outside, hugged and then hailed a taxi.
“They give you this packet and you are out of the building,” said one equities trader.
“The equities market is not that great so I may not find a similar job, but I have to deal with it,” said another.
After weeks of looming dread, employees were called into auditoriums, cafeterias and offices, handed an envelope with the details of their redundancy package, and shown the door. Reuters’ reporters followed some of the employees at DB’s London office to the nearest pub.
Few staff wanted to speak outside the bank’s London office, but trade was picking up at the nearby Balls Brothers pub around lunchtime.
“I got laid off, where else would I go,” said a man who had just lost his job in equity sales.
Job cuts were expansive in the bank’s main support centers, where the mood was “pretty hopeless”.
A Deutsche Bank employee in Bengaluru told Reuters that he and several colleagues were told first thing that their jobs were going.
“We were informed that our jobs have become redundant and handed over our letters and given approximately a month’s salary,” he said.
“The mood is pretty hopeless right now, especially (among)people who are single-earners or have big financial burdens such as loans to pay,” he added.
Sewing’s grand restructuring plan involves shutting down Deutsche’s entire lossmaking global equities business, cutting 18,000 jobs (roughly one-fifth of the bank’s total headcount) and hiving off €288 billion ($322 billion) of loss-making assets into a bad bank for sale or run-off. The goal of the restructuring is to reorient DB away from its troubled institutional business and more toward commercial banking and asset management.
As a JP Morgan analyst pointed out, questions linger over DB’s ability to grow, its “ability to operate a corporate franchise without a European equity business.”
Investors were also taken by surprise, which is probably why DB shares sold off again on Tuesday. Closing the bank’s European equity business as a radical step that few anticipated. Most of the leaks to the media seemed to suggest that the cuts would focus on its foreign business, particularly the troubled US equities unit.
But without an equities business, some clients might lose faith in DB’s ability to win business from large corporations. Then again, there’s also the sheer enormity of what the bank is trying to do: substantially grow revenues while cutting a huge chunk of its staff and closing whole businesses, some of which are synergistic with other businesses that will remain open.
As Daniele Brupbacher of UBS pointed out, the odds of success seem low: “Cutting costs by one-quarter while increasing revenues by 10 per cent over four years in the current market environment, while undergoing massive restructuring, could be seen as ‘challenging.'”
Restructuring costs are also probably weighing on shareholders’ minds: the restructuring is expected to produce a full-year loss. Will corporate bank head Stefan Hoops succeed in doubling the Global Transaction Bank’s pretax earnings to €2 billion over the next 2 years, and make a tangible return on equity of 15% by 2022? We guess it’s possible. We suppose it’s possible, but is it likely…
The bank which only a decade ago dominated equity and fixed income and sales trading and investment banking across the globe, and was Europe’s banking behemoth, is no more.
On Sunday afternoon, in a widely telegraphed move, Deutsche Bank announced that it was exiting its equity sales and trading operation, resizing its once legendary Fixed Income and Rates operations and reducing risk-weighted assets currently allocated to these business by 40%, slashing as many as 20,000 jobs including many top officials, and creating a €74 billion “bad bank” as part of a reorganization which will cost up to €7.4 billion by the end of 2022 and which will result in another massive Q2 loss of €2.8 billion, as the bank hopes to slash costs by €17 billion in 2022, while ending dividends for 2019 and 2020 even as it hopes to achieve all this without new outside capital.
“Today we have announced the most fundamental transformation of Deutsche Bank in decades. We are tackling what is necessary to unleash our true potential: our business model, costs, capital and the management team. We are building on our strengths. This is a restart for Deutsche Bank – for the long-term benefit of our clients, employees, investors and society”, CEO Christian Sewing said in a statement.
“In refocusing the bank around our clients, we are returning to our roots and to what once made us one of the leading banks in the world. We remain committed to our global network and will help companies to grow and provide private and institutional clients with the best solutions and advice for their respective needs – in Germany, Europe and around the globe. We are determined to generate long-term, sustainable returns for shareholders and restore the reputation of Deutsche Bank.”
In what has been dubbed a “radical overhaul”, the biggest German lender, unveiled one of the most comprehensive banking restructurings since the financial crisis, closing most of its trading unit and splitting off €74bn of its assets as the struggling German lender calls time on its “20-year attempt to break into the top ranks of Wall Street.”
“These actions are designed to allow Deutsche Bank to focus on and invest in its core, market leading businesses of Corporate Banking, Financing, Foreign Exchange, Origination & Advisory, Private Banking, and Asset Management” the bank said in a Sunday statement.
Creating a fourth business division called the Corporate Bank which will be comprised of the Global Transaction Bank and the German commercial banking business.
Exiting the Equities Sales & Trading business and reducing the amount of capital used by the Fixed-Income Sales & Trading business, in particular Rates.
Returning 5 billion euros of capital to shareholders starting in 2022, facilitated by a new Capital Release Unit (CRU) to which the bank plans initially to transfer approximately 288 billion euros, or about 20% of Deutsche Bank’s leverage exposure, and 74 billion euros of risk weighted assets (RWA) for wind-down or disposal.
Funding the transformation through existing resources including maintaining a minimum Common Equity Tier 1 ratio of 12.5%. The bank expects to execute its restructuring without the need to raise additional capital.
As a result, the bank’s leverage ratio is expected increase to 4.5% in 2020 and approximately 5% from 2022.
Reducing adjusted costs by 2022 by approximately 6 billion euros to 17 billion euros, a reduction by a quarter of the current cost base.
Targeting a Return on Tangible Equity of 8% by 2022.
Investing 13 billion euros in technology by 2022, to drive efficiency and further improve products and services.
And the key aspects of the reorganization, in more detail as published in a company press release, include:
The exit of Global Equities and a significant reduction in Corporate and Investment Banking risk weighted assets
Deutsche Bank will exit its Equities Sales & Trading business, while retaining a focused equity capital markets operation. In addition, the bank plans to resize its Fixed Income operations in particular its Rates business and will accelerate the wind-down of its existing non-strategic portfolio. In aggregate, Deutsche Bank will reduce risk-weighted assets currently allocated to these businesses by approximately 40%.
The bank will create a new Capital Release Unit to manage the efficient wind-down of the assets related to business activities, which are being exited or reduced. These assets and businesses represented EUR 74 billion of risk-weighted assets and EUR 288 billion of leverage exposure, as of 31 December 2018.
A significant restructuring of businesses and infrastructure
Deutsche Bank will implement a cost reduction program designed to reduce adjusted costs to EUR 17 billion in 2022 and is targeting a cost income ratio of 70% in that year.
To facilitate its restructuring, Deutsche Bank expects to take approximately EUR 3 billion of aggregate charges in the second quarter of 2019, of which approximately EUR 0.2 billion would impact Common Equity Tier 1 capital. These charges include a Deferred Tax Asset write-down of approximately EUR 2 billion and impairments of approximately EUR 0.9 billion. Additional restructuring charges are expected in the second half of 2019 and subsequent years. In aggregate, Deutsche Bank currently expects cumulative charges of EUR 7.4 billion by the end of 2022.
Managing the transformation through existing resources
Deutsche Bank management intends to fund its transformation from its existing resources without requiring additional capital. This reflects the bank’s current strong capital position as well as management’s confidence in the high quality and low risk nature of the assets, which it is exiting. In connection with these decisions, the Management Board intends to recommend no common equity dividend be paid for the financial years 2019 and 2020. The bank expects to have capacity for payments on additional tier 1 securities throughout the transformation phase.
Updated capital and leverage targets
The Management Board believes that the future business mix is consistent with a lower capital requirement. After consultation with the bank’s regulators, the bank now intends to operate with a minimum CET1 ratio of 12.5% going forward. As a result of the significant deleveraging actions, the bank targets a fully-loaded leverage ratio of 4.5% by the end of 2020 rising to approximately 5% by 2022.
Improving broken internal controls
Deutsche Bank is committed to investing a further 4 billion euros in improving controls by 2022. The bank will combine its Risk, Compliance and Anti-Financial Crime functions to strengthen processes and controls while also increasing efficiency. To reshape and improve its long-term competitive position, the bank will undertake a restructuring of its infrastructure functions, which include back office systems and processes that support all business divisions. These functions will become leaner, more innovative and more digital.
A separate Technology function will be created which will have responsibility to further optimize Deutsche Bank’s IT infrastructure. It will also drive the digitalisation of all businesses. This is set to boost innovation as well as further strengthen the internal control environment. The bank will make targeted investments in technology and innovation, utilising a budget of 13 billion euros by 2022.
Of course, none of the above will come for free, and the bank will incur second quarter charges related to the restructuring described above, resulting in a pretax loss before income taxes of approximately EUR 500 million and a net loss of EUR 2.8 billion. The silver lining – if one excludes all these “one-time” charges – which is ironic for the bank which has been restructuring every quarter for the past few years – Deutsche Bank expects to report second quarter 2019 income before income taxes of approximately EUR 400 million and net profit of EUR 120 million.
As the FT notes, the new strategy by CEO Christian Sewing “signals a retreat from Deutsche’s global ambitions and its aim to be Europe’s main rival to Goldman Sachs”. Instead, one year ahead of Deutsche’s 150th anniversary, Sewing is refocusing the lender on its historic roots — financing German and European corporate clients and domestic retail banking.
As we noted previously, the bank with the €43.5 trillion in gross derivatives notional…
… will be hard-pressed to ringfence all of its toxic assets in a relatively modest €74 billion silo. What is just as notable is that the use of a bad bank, an artificial crutch that was prevalent during the financial crisis and shortly after as shown in the chart below…
… confirms that many if not most of Europe’s banks are just as challenged as they were a decade ago, and only the ECB’s actions prevented the market from grasping the true severity of the situation. Which, in a sense, is paradoxical because it is the ECB’s NIRP/QE policies that made Deutsche Bank’s historic restructuring inevitable.
Finally, the bank also said that the restructuring actions will include a workforce reduction of approximately 18,000 full-time equivalent employees to around 74,000 employees by 2022. In aggregate, the bank expects to reduce adjusted costs by approximately 6 billion euros to 17 billion euros in 2022, although pink slip details are likely reserved for a more intimate context.
Most of the job losses are set to come at the investment bank, particularly the underperforming operations on Wall Street and in the City of London. Not only the rank and file will be affected: as we reported yesterday, two top executives have already departed as part of the overhaul — Garth Ritchie, investment banking chief, and Frank Strauss, head of retail banking. Sylvie Matherat, chief regulatory officer, is also expected to leave, as are the bank’s debt chiefs Yanni Pipilis and James Davies.
While it is unclear if the bank can achieve its ambitious agenda in the next 3 years, one thing is certain – the Deutsche Bank that saw RenTec close out its counterparty exposure in recent weeks anticipating what was coming – is no more, and it remains to be seen if the “successor” will be any more successful.
Bank expects to exit its equities sales and trading business
Lender sees no dividend for this year or next amid overhaul
Deutsche Bank AG will exit its equities business and post a net loss of 2.8 billion euros ($3.1 billion) in the second quarter as Chief Executive Officer Christian Sewing seeks to boost profitability and shrink the German lender’s once-mighty investment banking unit.
The lender expects restructuring charges of 7.4 billion euros through 2022 to pay for the radical overhaul and will shelve the dividend this year and next, according to a statement on Sunday. About 18,000 jobs will be eliminated in the restructuring.
About 74 billion euros of risk-weighted assets will become part of a new non-core unit and the lender’s capital buffer will be reduced as part of the plan. The bank said it does not plan a capital increase to pay for the overhaul.
The bank said retail chief Frank Strauss and Chief Regulatory Officer Sylvie Matherat, both board members, will leave this month. The departure of investment bank head Garth Ritchie was announced on Friday.
The scale of the revamp underscores the failed turnarounds by Sewing and his predecessors to solve the fundamental problem: costs were too high and revenue too low. After government-brokered merger talks with Commerzbank AG collapsed in April, the CEO had few other options to bolster market confidence. His plan was approved by the board at a meeting Sunday.
The investment bank is a key focus of the overhaul. The unit, which accounts for roughly half of Deutsche Bank’s revenue and which was a major actor in its downfall, will be broken in two. The transaction bank will be lifted out and merged with the commercial clients segment that’s currently within the retail division, people familiar with the matter have said.
The change is designed to accelerate the shift away from acting as the first port of call for institutional clients such as asset managers and hedge funds toward selling cash management, trade finance and hedging products to corporate clients. The new division, to be lead by current transaction bank head Stefan Hoops, will be at the heart of the lender’s future business model.
In my opinion, and as i said countless times, Deutsche Bank does not even stand a chance of surviving.
The internal culture and practices are wrong and the legal liabilities are not even possible to put an estimate on.
I am afraid the bank has been belly up for years.
Francisco (Abouaf) de Curiel Marques Pereira
(CNBC) Deutsche Bank is considering cutting 15,000 to 20,000 jobs, or more than one in six full-time positions globally, the Wall Street Journal reported on Friday, citing people familiar with the discussions.
The layoffs would probably take place over more than a year and would spread across regions and businesses, the Journal said.
Top-level talks about the restructuring took place on Thursday and Friday, but no final decisions have been made, a source close to the matter told Reuters.
Deutsche Bank is completing a plan that may eliminate hundreds of positions in equities trading and research, as well as derivatives trading, as part of a broad restructuring, Bloomberg reported on Friday, citing sources.
Sources told Reuters last week that the bank plans to cut the size of its U.S. equities business, leaving only a skeleton operation in place to service corporate and high-net-worth clients.
Members of Deutsche’s supervisory board discussed those plans on a call earlier this month and agreed that large-scale cuts were necessary in the bank’s U.S. equities and rates trading businesses, Reuters reported, citing the sources.
Chief Executive Officer Christian Sewing is trying to convince investors he can turn around Germany’s biggest bank, whose shares hit a record low this month. He told investors at the annual meeting last month that Deutsche was prepared to make “tough cutbacks” at its investment bank.
P.O. … By George! It’s Deutsche Bank again! … FCMP
(NYT) Federal authorities are investigating whether Deutsche Bank complied with laws meant to stop money laundering and other crimes, the latest government examination of potential misconduct at one of the world’s largest and most troubled banks, according to seven people familiar with the inquiry.
The investigation includes a review of Deutsche Bank’s handling of so-called suspicious activity reports that its employees prepared about possibly problematic transactions, including some linked to President Trump’s son-in-law and senior adviser, Jared Kushner, according to people close to the bank and others familiar with the matter.
The criminal investigation into Deutsche Bank is one element of several separate but overlapping government examinations into how illicit funds flow through the American financial system, said five of the people, who were not authorized to speak publicly about the inquiries. Several other banks are also being investigated.
The F.B.I. recently contacted the lawyer for a Deutsche Bank whistle-blower, Tammy McFadden, who publicly criticized the company’s anti-money-laundering systems, according to the lawyer, Brian McCafferty.
Ms. McFadden, a former anti-money-laundering compliance officer at the bank, told The New York Times last month that she had flagged transactions involving Mr. Kushner’s family company in 2016, but that bank managers decided not to file the suspicious activity report she prepared. Some of her colleagues had similar experiences in 2017 involving transactions in the accounts of Mr. Trump’s legal entities, although it was not clear whether the F.B.I. was examining the bank’s handling of those transactions.
The same federal agent who contacted Ms. McFadden’s lawyer also participated in interviews of the son of a deceased Deutsche Bank executive, William S. Broeksmit. Agents told the son, Val Broeksmit, that the Deutsche Bank investigation began with an inquiry into the bank’s work for Russian money launderers and had expanded to cover a broader array of potential misconduct at the bank and at other financial institutions. One element is the banks’ possible roles in a vast money-laundering scandal at the Danish lender Danske Bank, according to people briefed on the investigation.
The broader scope of the investigations and many details of precisely what is under scrutiny are unclear, and it is not known whether the inquiries will result in criminal charges. In addition to the F.B.I., the Justice Department’s Money Laundering and Asset Recovery Section in Washington and the United States attorney’s offices in Manhattan and Brooklyn are conducting the investigations. Representatives for the agencies declined to comment.
Deutsche Bank has said that it is cooperating with government investigations and that it has been taking steps to improve its anti-money-laundering systems.
Even so, the governmental scrutiny — from regulators, members of Congress and now the Justice Department and F.B.I. — has been a drag on the bank’s stock price, which is hovering near historic lows because of investors’ doubts about its future.
The congressional investigations are focused on Deutsche Bank’s close relationship with Mr. Trump and his family. Over the past two decades, it was the only mainstream financial institution consistently willing to do business with Mr. Trump, who had a history of defaulting on loans. The bank lent him a total of more than $2 billion, about $350 million of which was outstanding when he was sworn in as president.
Two House committees have subpoenaed Deutsche Bank for records related to Mr. Trump and his family, including records connected to the bank’s handling of potentially suspicious transactions. The president has sued to block Deutsche Bank and Capital One, where he also holds money, from complying with the subpoenas. A federal judge rejected Mr. Trump’s request for an injunction, and the president has appealed that ruling.
The Justice Department has been investigating Deutsche Bank since 2015, when agents were examining its role in laundering billions of dollars for wealthy Russians through a scheme known as mirror trading. Customers would use the bank to convert Russian rubles into dollars and euros via a complicated series of stock trades in Europe and the United States.
In early 2017, federal and state regulators in the United States and British authorities imposed hundreds of millions of dollars in civil penalties on Deutsche Bank for that misconduct, but prosecutors never brought a criminal case against the bank. That led some senior Deutsche Bank executives to believe they were in the clear, according to people familiar with their thinking.
By last fall, though, federal agents were investigating a wider range of anti-money-laundering lapses and other possible misconduct at the bank.
F.B.I. agents met this year with Val Broeksmit, whose father was a senior Deutsche Bank executive who committed suicide in January 2014. Mr. Broeksmit said he had provided the agents with internal bank documents and other materials that he had retrieved from his father’s personal email accounts.
Subscribe to With Interest
Catch up and prep for the week ahead with this newsletter of the most important business insights, delivered Sundays.SIGN UP
Until his death, William Broeksmit sat on the oversight board of a large Deutsche Bank subsidiary in the United States, Deutsche Bank Trust Company Americas, which regulators have criticized for having weak anti-money-laundering systems.
Many of the bank’s anti-money-laundering operations are based in Jacksonville, Fla., where Ms. McFadden was one of hundreds of employees vetting transactions that computer systems flagged as potentially suspicious.Ms. McFadden worked in Deutsche Bank’s offices in Jacksonville, Fla. Current employees there have discussed the possibility of the building’s being raided by federal agents.CreditWillie Jr. Allen for The New York Times
Ms. McFadden told The Times that she had warned in summer 2016 about transactions by the Kushner Companies involving money being sent to Russian individuals. Other Deutsche Bank employees prepared reports in 2017 flagging transactions involving legal entities associated with Mr. Trump, including his now-defunct charitable foundation, according to current and former bank employees. In both instances, the suspicious activity reports were never filed with the Treasury Department.
Deutsche Bank officials have said that the reports were handled appropriately and that it is not uncommon for managers to overrule employees and opt not to file suspicious activity reports with the government.
There is no indication that Kushner Companies is under investigation. The company said any allegations regarding its relationship with Deutsche Bank that involved money laundering were false. A Trump Organization spokeswoman said that she had no knowledge of any Deutsche Bank transactions being flagged.
The federal Bank Secrecy Act requires financial institutions to alert the government if they suspect that transactions involve criminal proceeds or are being used for illegal purposes. Banks can face civil or criminal penalties for failing to file reports about transactions that are found to be illegal. In recent years, banks like JPMorgan Chase and HSBC have incurred such penalties.
Banks argue that when they err on the side of reporting potential problems, they end up flooding the government with false leads.
Former Deutsche Bank employees, speaking on the condition of anonymity, told The Times that the company had pushed them to rush their reviews of transactions and that managers sometimes created obstacles that discouraged them from filing suspicious activity reports.
Deutsche Bank has scrambled to toughen its anti-money-laundering procedures.
To address complaints about inadequate staffing, it brought in contractors to supplement its Jacksonville work force, although some employees said that the contractors were inexperienced and lacked the appropriate training.
Deutsche Bank also recently sent letters to hundreds of companies, warning that they could be cut off from the bank’s services if they did not swiftly provide up-to-date information about the sources of their money and the names of their business partners, according to bank employees who saw the letters. Deutsche Bank officials said the letters, first reported by the Financial Times, were part of their efforts to comply with “know your customer” rules, a crucial component of any bank’s anti-money-laundering efforts.
In Jacksonville, Deutsche Bank’s anti-financial-crime staff works in a white, three-story building surrounded by palm trees. The F.B.I. has a field office just down the road, clearly visible from the bank’s campus.
Bank employees recently have taken to joking that when the F.B.I. raids their offices, they will be able to see the agents coming.
(Reuters) Deutsche Bank is planning to overhaul its trading operations by creating a “bad bank” to hold tens of billions of euros of assets and shrinking or shutting its U.S. equity and trading businesses, the Financial Times reported on Sunday.
The bad bank would house or sell assets valued at up to 50 billion euros ($56.06 billion)- after adjusting for risk – and comprise mainly long-dated derivatives, the FT reported, citing four people briefed on the plan.
With the creation of the bad bank, Chief Executive Officer Christian Sewing is shifting the German lender away from investment banking and focusing on transaction banking and private wealth management, the newspaper said.
As part of the restructuring, the lender’s equity and rates trading units outside continental Europe will be shrunk or closed entirely, the report said.
The bank is planning cuts at its U.S. equities business, including prime brokerage and equity derivatives, to win over shareholders unhappy about its performance, four sources familiar with the matter told Reuters in May.
“As we said at the AGM on May 23, Deutsche Bank is working on measures to accelerate its transformation so as to improve its sustainable profitability. We will update all stakeholders if and when required,” Deutsche Bank said in an emailed statement on Sunday in response to the FT report.
Sewing could announces announce the changes along with Deutsche Bank’s half-year results in late July, the FT reported.
Somewhere Hugo Chavez, who several years ago successfully repatriated much of Venezuela’s gold, is spinning in his grave.
It started in March, when Venezuela’s embattled leader Nicolas Maduro defaulted on a $1.1 billion gold-backed loan with Citi, in the process losing several tons of gold placed as collateral by Venezuela’s central bank after the deadline for repurchasing them expired. Now, Bloomberg reports that Venezuela has also defaulted on a gold swap agreement valued at $750 million with Deutsche Bank, prompting the German bank to seize the precious metal which was used as collateral, and close out the contract.Maduro and a stack of 12 Kilogram gold ingots.
As part of a financing agreement signed in 2016 which we profiled here, Venezuela received a cash loan from Deutsche Bank and put up 20 tons of gold as collateral. The agreement, which was set to expire in 2021, was settled early due to missed interest payments as Venezuela has now effectively run out of foreign reserves.
It was the second time this year that the Maduro’s regime has failed to make good on financing agreements which have resulted in losses at a time when gold reserves are already at a record low. As we have noted previously, for example in “Venezuela Prepares To Liquidate Its Remaining Gold Holdings To Pay Coming Debt Maturities” Venezuela’s dwindling gold holdings had become one of Maduro’s last remaining sources of cash keeping his regime afloat and his military forces loyal. Before the central bank missed the abovementioned March deadline to buy back gold from Citigroup for nearly $1.1 billion, the Bank of England refused to give back $1.2 billion worth of Venezuelan gold.
Meanwhile, as Bloomberg reports, opposition leader Juan Guaido’s parallel government has asked the bank to deposit $120 million into an account outside President Nicolas Maduro’s reach, which is the difference in price from when the gold was acquired to current levels.
“We’re in touch with Deutsche Bank to negotiate the terms under which the difference owed to the central bank will be paid to the legitimate government of Venezuela,” said Jose Ignacio Hernandez, Guaido’s U.S.-based attorney general. “Deutsche Bank can’t risk negotiating with the central bank’s illegitimate authorities,” particularly after it was sanctioned by the U.S. government, Hernandez said, even though the military has stubbornly refused to go along with the US attempted government coup, leaving the seized gold in limbo.
While insolvent Venezuela, which defaulted on its dollar-denominated bonds in 2017, is becoming increasingly cut off from the global financial network due to sanctions, it still managed to sell $570 million in gold last month, prompting total foreign reserves to tumble to a 29-year low of $7.9 billion.
Meanwhile, Venezuela has not only become a symbol of the destructive influence of socialism and associated hyperinflation, but a case study of how to obliterate the only real hard currency left when everything else is gone: the government managed to blow through more than 40% of Venezuela’s gold reserves last year, selling to firms in the United Arab Emirates and Turkey in a desperate bid to fund government programs and pay creditors.
Personally i would love it to happen. We would get rid of two evils: The Vampires of Wall Street and the eternally broke Deutsche Bank. DB problems, particularly the litigation problems,would eat the Vampires of Wall Street’s (Goldman Sachs) capital in no time. As the French would say: Bon debarras! (Good riddance!)
Krisztian Bocsi | Bloomberg | Getty ImagesStatues stand outside a Deutsche Bank AG branch in Frankfurt, Germany.
Deutsche Bank has defended its risk and control system after proxy adviser Institutional Shareholder Services (ISS) called for shareholders to vote against the board.
The influential proxy advised its members to vote against “discharging” Deutsche’s board, the vote of confidence under the German corporate code, at its AGM on May 23. A vote against discharge is the strongest way for the shareholders to express their disapproval at the board’s AGM.
It cited the series of scandals resulting from the bank’s failure to uphold anti-money laundering (AML) controls as causing reputational and monetary damage which has been borne by shareholders.
In a statement issued Wednesday, Deutsche said the ISS report “does not reflect the current situation of our bank and its control environment.”
“The vast majority of the legacy cases mentioned date back to the time prior to 2016,” the bank added.
“While we acknowledge that there is still work ahead of us, we have significantly improved our risk and control systems in the last three years and we will continue to do so.”
Deutsche also argued that its share price should not be used to indicate financial instability, claiming it has a “very robust balance sheet with a high capital ratio, ample liquidity and a strong asset quality.”
In the advisory circulated to investors, ISS had dismissed Deutsche’s claims of improving “know your customer” and AML controls, according to a report in the Financial Times on Tuesday, and disputed that the bank’s performance resulted from an unfavorable market environment.
It is the first time ISS has called for shareholders to vote against ratifying the board, and followed similar guidance from fellow proxy Glass Lewis last week.
Deutsche Bank shares traded marginally higher during the morning session. However, the shares are down more than 40 percent over a 12-month period.
Americans generally think of Europe first as a wonderful place to visit. They rarely ponder the economic and financial ties between the United States and European Union, but in fact these ties are extensive and significant to the stability of both economies. One area of particular connection involves the large banks and companies that provide services on both sides of the Atlantic. It is this area of commercial finance that risks are actually growing to the United States—in large part due to political gridlock in Europe stemming from the 2008 financial crisis.
Credit market professionals have been aware of problems among the European banks for many years. Their lack of profitability, combined with high credit losses and a lack of transparency have created a minefield for global investors going back decades. Whereas the United States has a bankruptcy court system to protect investors, in Europe the process of resolving insolvency is an opaque muddle that leans heavily in favor of corporate debtors and their political sponsors.
When we talk about true mediocrity among European banks, one of the leading example are, surprisingly, German institutions. Germany, after all, has a reputation for being the economic leader of Europe and a global industrial power, thus the continued failures in the financial sector are truly remarkable.
The biggest example, Deutsche Bank, Germany’s largest bank, has had problems with capital and profitability going back decades.
But Deutsche Banks’s problems are not unique.
What is troubling and indeed significant for American policy makers, however, is the nearly complete failure of our friends in Europe to address their banking sector, either in terms of cleaning up bad assets or raising capital to enable the cleanup.
One of the political understandings that came out of the Basel III process (a regulatory regime first introduced in 2013 to promote stability in the international financial system) was that the United States would take a harder view on mortgage related exposures and particularly intangible assets like mortgage servicing rights. The Europeans, it is said by participants, agreed to take a tougher line on bad assets loitering inside banks and to particularly require banks to take a reserve against bad credits immediately.
Prior to 2018, when the president of the European Central Bank, Mario Draghi, directed EU banks to start recognizing bad credits, international accounting rules essentially allowed EU banks to ignore bad credits. Indeed, EU banks could pretend that loan payments were still being received. Loans that defaulted prior to 2018 were not included in the directive. Thus Europe has a decade of detritus sitting in the loan portfolios of many banks that is neither disclosed nor properly valued. Whereas in the United States banks must charge-off bad assets down to some expected recovery value, in Europe we extend and pretend.
Many observers were surprised several years ago when Chinese airline conglomerate HNA arrived on the scene as the new shareholder of Deutsche Bank, a significant global investment bank that provides a range of services in the United States. The German lender had been marketing an offering of new equity shares for years without luck, thus the arrival of the high-flying and highly-leveraged HNA was greeted with quiet gratitude in European capitals. No European politician wants to be caught dead talking about large banks in anything but the most responsible tones, thus nobody asked any questions about HNA or its owners.
Sadly the HNA equity investment in Deutsche Bank was financed with a lot of debt. When the Chinese firm started to literally implode two years ago due to massive debt payments on its $40 billion in obligations, it began to sell its shares in Deutsche Bank, creating the latest crisis for the chronically underperforming bank. Today HNA is being liquidated under the supervision of the Chinese government. And to this day, nobody among United States or European bank regulators really knows who owns the company that was briefly the largest shareholder of Deutsche Bank
The setback with HNA led to discussions of merging Deutsche Bank with Germany’s Commerbank, another poor performer among the country’s banking sector. Again, German politicians led by Chancellor Angela Merkel refuse to even hint at public assistance for Deutsche Bank, but the mounting troubles with banks across Europe may force Merkel’s hand as it has in Italy.
Bank earnings in Europe are weak, notes veteran bank consultant Mayra Rodriguez Valladares. As she exlains in a recent Forbes column:
Unfortunately, many of European banks’ woes are of their own making. A host of regulatory and legal fines and ongoing money laundering investigations of several banks do not bode well for European earnings. According to a Moody’s Investors Services report: ‘European banks were fined over $16 billion from 2012 to 2018 related to money laundering and trade sanction breaches.’
Rodriguez Valladares notes that U.S. and EU banks are enormously intertwined, particularly in terms of funding and derivatives—two areas of keen interest to U.S. regulators. But the fact of the matter is that the EU banking system and the EU economy are still too weak to shoulder the burden of a general cleanup of bad credits in EU banks.
The economic reality and ugly politics are both too daunting for EU leaders to engage publicly on these issues. Indeed, German Finance Minister Olaf Scholtz, who is touted as a possible successor to Merkel, was attacked by opposition politicians because of the prospective job losses in a Deutsche-Commerzbank merger.
But sadly the union of two zombie banks was not to be. “Banking giant Deutsche Bank and its crosstown rival Commerzbank ended merger talks, leaving in tatters the German government’s hope to shore up both banks and create a banking powerhouse,” The Wall Street Journal reported on April 25.
So now the German government must try to identify another politically expedient way to hide the Deutsche Bank problem without resorting to an explicit state bailout. Not only is financial help for EU banks problematic politically, but the EU simply lacks the economic resources to clean up the broader asset quality problems affecting European banks.
The tendency of EU politicians to stick their heads in the sand when it comes to these issues represents a smoldering threat to global financial stability. Troubles affecting Deutsche Bank and other EU lenders could easily explode into financial contagion if markets decide to turn away from these banks à la Lehman Brothers. For American business leaders and political leaders, the festering problems in European banks are a source of potential risk that could cause significant economic problems for all of us. Stay tuned.
In recent years there has been a distinct change in the market as it relates to the “reaction function” of traders vis-a-vis volatility: whereas in the past (i.e. prior to the 2008 financial crisis) sliding volatility was a clear signal for both risk appreciation and broad market participation, ever since central banks took over both bond and equity markets over the past decade, collapsing vol has been increasingly seen as a warning sign that something is just not right, that central banks as part of their vol suppression strategy are artificially reducing the market’s perception of risk, and as such, high risk prices are artificial.
One need look no further than market action in 2019 where despite fresh record highs in the S&P – mostly the product of the Fed’s sudden tightening bias reversal and subsequent easing by both the US central bank and its global peers – equity outflows have hit an unprecedented pace, with continued stock upside attributable almost exclusively to stock buybacks, forced short squeezes and delta and gamma-imbalanced dealer books, where the higher equities rise, the greater the “forced chase” by dealer to keep bidding stocks even higher. Meanwhile, both institutional and retail investors have continued to flee global equities as the chart below from EPFR summarizing broad asset flows shows.
Another confirmation that low vol is no longer seen as a broad participatory signal are market volumes, which continue to shrink the higher markets rise; an indirect validation of the lack of faith in record asset prices.
While not addressing this topic explicitly, in his latest note, everyone’s favorite credit derivatives post modernist, Deutsche Bank’s Aleksandar Kocic who with every subsequent analysis transforms himself ever closer to the linguistic equivalent of a financial Slavoj Zizek, look at the perception of volatility in recent years, particularly through its circular interplay with broader market leverage, and writes that in the post-central bank era, the “leverage-volatility cycle has been disrupted and its amplitudes attenuated – there are no more booms and busts, just mellow undulations around slower growth and benign inflation.“
Taking a somewhat different approach than our assessment, Kocic writes that in the past, low volatility was a signal of build-up of latent risk due to vol-leverage dynamics, as “low volatility leads to excessive risk taking and misallocation of capital, which ultimately results in forced deleveraging”, and after several cycles the markets learned that these dynamics are an inherent aspect of market functioning. As a result, the vol-leverage trajectory has become “an outward spiral” and “in each subsequent sweep, leverage is higher and risk premia compression more extreme than in the previous episode, leading, naturally, to a deeper crisis and a need for an even more extreme policy response.” Then, resorting to every Austrian’s favorite Schumpeterian “creative destruction” analogy, Kocic writes that if stability is indeed destabilizing, then the main challenge lies not in how to avoid the mistakes, but instead in how to control their costs, and answers that “post-2008, this has been addressed by regulations, and policy adjustments.” In short, central banks step in every time the cycle of vol-leverage dynamics threatens to spiral out of control.
Perhaps as a result of this now constant “Fed put”, which emerged so vividly in late December 2018, Kocic writes that while “in the past, fear has had bad reputation — it stood as a sign of incompleteness, something one needs to outgrow”, the “post-2008 period can be seen effectively as an exoneration of fear”:
Fear has become a sign of wisdom, elevated to a new heuristic or cognitive principle. On the back of this shift in attitude, the resulting excessive caution by both investors and policy makers led to generally lower risk tolerance and has been the leading cause of gradual collapse of market volatility.
While this does not directly address our fundamental thesis, namely that the prevailing sentiment toward low vol has been turned upside down due to central bank intervention, and is no longer a sign of “all clear, the water is warm” by investors but is rather a symbol of foreboding – confirmation that central banks are worried and are therefore artificially suppressing vol – Kocic next looks at just how the leverage-vol cycle broke down within the financial sector, where despite the collapse in vol, leverage never managed to recover.
As such, Kocic believes that the “financial sector was the center of leverage transmission pre-2008” and was essential for converting low volatility into high leverage, which was seen as one of the main engines of growth. This is shown in the chart below, which shows the history of financial subsector of the S&P index overlaid with the levels of volatility on the inverted axis. Periods of low volatility were most profitable for financial institutions as they provided the main engine for conversion of credit into liquidity risk.
And while prior to the 2008 crisis, the “prosperity of financial sector and low volatility show high degree of coordination”, the subsequent departure is a consequence of the changes in the regulatory environment and redistribution of leverage away from the financial into corporate sector, something which Kocic shows in the next chart.
This transition of leverage away from the financial to other sectors had singificant consequences for all aspect of risk prices, and naturally, for volatility. As Kocic explains the “rationale of this maneuver” when it comes to credit risk, “corporate sector is more transparent than the combination of households and financial sectors together. By resyphoning leverage from financials and households to corporates and government, risk has been made less systemic and the margin of error in assessing and monitoring the aggregate credit risk and its misrepresentations in the markets have been reduced.”
Superficially, this is good news, because as a result of the decline in financial sector leverage, “there are no longer casualties of big “collisions”, only parking accidents” as Kocic puts it:
This redistribution of leverage has put the speed limit on possible future encounters with forced deleveraging associated with booms and busts. There are no longer casualties of big “collisions”, only parking accidents.
And yet, going back to the Schumpeter analogy above, if the system is preemptively absolved from the risk of crashes, it also remove the potential for substantial real growth, or as the DB strategist puts it, “reducing and constraining the leverage of financial sector also confines its propagation into the economy. Although stabilizing, in the existing paradigm, this appears to stifle growth — by preventing bad behavior, in the economy which is dependent on financialization, the system is deprived of one of the main engines of growth.”
How do interest rates fit into this?
While the above discussion explains the drift in the traditional relationship between leverage and volatility, there is another distinct historical correlation between the yield curve (which in recent months has gotten abnormal focus due to its inversion) and volatility surface which recently have “topologically converged to each other”, or as Kocic explains, “the curve is on the verge of inversion and the surface on the verge of disinversion” and elaborates as follows: “While Inverted curve appears ominous (at least, in the eyes of the market), disinverted vol surface is soothing — it predicts persistent and uninterrupted calm”, even though we would disagree with this simplistic assessment of the vol surface which, as most traders will admit, reflect nothing more than central bank vol suppression, and therefore the more “normal” the vol surface appears, paradoxically the greater the level of underlying angst.
In fact, we are disappointed that Kocic seems to agree with the far more simplistic explanation, on which absolves the yield curve inversion of any ominous signaling, while suggesting that the disinverted vol surface should be taken at face value, and that any lingering concerns about low vol, or the “residual (consensus) discomfort before ominously low vol” is merely a “consequence of the aftertaste of previous crises when the current regulations were absent.”
Perhaps Kocic was listening to the latest Zizek audiobook when central banks injected their $20th trillion of liquidity in the artificial “markets” or when now chair Powell was making the stunning admission in 2012 that the Fed has a “short volatility position” to appreciate just how naive such an argument is, especially when other traders see right the farce of low vol and also right through the superficial sophistry of anyone who tries to underscore just how credible low volatility is… but we digress.
What is more interesting is not Kocic’s philosophical beliefs in what vol may or may not be telling us, but his quantification of the correlation between the vol surface and the yield curve… and how this has changed over time.
As the DB strategist writes, while the shape of curve and volatility term structure have a logical connection, “their relationship has undergone structural shifts as a consequence of significant changes in the market structure and conditions.” To wit, Kocic highlights three distinct regimes between these two key market vairables.
This is shown in the next chart which highlights the interplay between inversion of the vol surface and the 10s/30s slope of the curve. When seen in this context, Kocic claims that the current flattening of the yield curve is consistent with the surface if taken for what it really is, i.e. as a result of compression of risk premia, rather than a forecast of recession.
Looking at the three temporal regimes defined by Kocic, we start with…
Pre-2008: here, in this pre-central bank time, vol and curve were unified by carry. Kocic explains: “While logically the two are related, the transmission that reinforced that bond was mortgage convexity hedging. As both recession and mortgage prepayment are low rates phenomena, bid for rates volatility was reinforced in recessionary markets as mortgage hedgers became more active. Curve moved in bull steepening and bear flattening mode. Volatile bull steepening and calm bear flatteners associated with rate hikes were the stylized facts of that period.”
Post-2008: To the DB strategist, this period marks “the period of nationalization of negative mortgage convexity and severance of the traditional transmission mechanisms as well as the structural shift between the curve and vol interaction.” The front end of the curve was anchored and the referendum on effectiveness of the monetary policy was expressed by the back end. Bull flatteners marked volatile risk-off episodes while bear steepeners, being a positive verdict on QE, were calming, risk-on modes.
Describing the post-2008 phase in other words, the post-QE period “marks a gradual and systematic curve flattening while vol remained low and surface disinverted” amid the collapse of risk premia. To make his point that the yield curve is no longer signal but merely noise, i.e., it chases vol, Kocic claims that “the curve has converged to where volatility surface has already settled. The flattening pressure was a function of the tight fiscal policy, regulations, and supply shocks in oil.” As such the post-2014 sub-period marks “a systematic compression of risk premia across the board with markets continuing to align with slower growth, lack of excitement across extended horizons and a likely shift towards more aggressive savings.”
Going back to his analogy that we no live in a period where “there are no longer casualties of big “collisions”, only parking accidents”, Kocic next argues that this mode of curve repricing is consistent with the expectations of mild shocks and their persistent effect, and that the vol market “has captured this through low mean reversion, with lower vol and surface inversion remaining in a tight range, while other risk premia collapsed (Figure).”
Assuming this take is accurate, what does it imply for the future of volatility?
In the context of the reflexive relationship between vol and yield, at this point, volatility would appear to be a prisoner of the curve. Regressing to an analogy he has repeatedly used in the past, Kocic argues that the spread between short and long rate – “the playground that defines the range of what can possibly happen” – is now so tight that it does not allow any substantial range in rates, and therefore no meaningful rise in volatility.
The logical next question is what could prompt a spike in the spread in rates, to which the “derivative(s) Zizek” writes that “outside of tail risk, the first step in creating conditions for bear steepeners is a move towards tolerating higher inflation. This could be achieved by a change of inflation targeting policy. Additional disorder could follow the relaxing of the regulatory constraints, which would free bank balance sheets and boost the credit impulse that could possibly stimulate investment and in turn lead to higher productivity growth.”
However, a problem emerges, as the demand-side has to be addressed at the same time. Indeed, the new technologies that would attract investment now destroy more jobs than they create as “the old paradigm does not seem to be capable of achieving these goals; it has failed to deliver desired results, while the new one is politically difficult to pass.” This, then brings us to the above core argument, namely that any effort in this direction is a source of further political volatility and dissipation of consensus which further stifles change. Paradoxically, one event that could restore some vol is an easier Fed, or as Kocic explains:
Adjustment of monetary policy through rate cuts would free some room for rates to move by opening the policy gap, the spread between long rate and near-term Fed expectations, from below. This is a temporary rise in realized volatility but without steepening of the long end of the curve.
Which brings us to the conclusion: barring the abovementioned “fat tail”, Kocic asks “have we reached the end” of the post-2008 phase of collapsing vol and flattening yield curve, and parallel to that “what could create conditions for volatility return?”
The answer here is that while there are two directions of curve-vol reshaping, Kocic argues that the main boost for volatility “is to liberate the right side of the (rates) distribution” which would mean “that higher rates and steeper curve have to be allowed.” In this mode, gamma would lead the way followed by the disinversion of the long-dated sector. The chart below shows two directions of change, i.e. curve first needs to steepen before realized volatility can rise.
This is also the “vol shift mode that could take us closer to the tail risk as concentrated risks in the corporates.” Incidentally, this takes us back full circle to what so many analysts believe will be the source of the next crisis: the wholesale prolapse of the BBB-rated investment grade space, a tsunami of “fallen angels” that would obliterate the junk bond market as it more than doubles in size overnight from $1.1 trillion, and catalyzes the next financial crash. Or, as Kocic puts it, “the global hunt for yield has encouraged investors to move down the credit spectrum to enhance returns. Within the IG universe, BBB issuance has grown significantly.” This is shown in the chart below, which shows that more than 50% of the entire IG index is now BBB-rated.
To Kocic, this is also the most negatively convex sector which is sensitive to spread wideners in steepening sell off. In other words, a possible wholesale downgrade to BB or lower would result in disorderly unwind of positions of the IG money managers which would be capable of raising volatility significantly. From there it would promptly spread to the rest of the market, and global economy, and lead to the next financial crisis. What happens to vol then should be clear to anyone.
The good news is that, at least in the near term, it appears that not much can go wrong as “there seems to be an embedded mechanism that dampens the volatility away from the upper left corner.” In fact, and ironically, at this moment it appears that the Fed seems to be the only source of shocks with their effects localized at the front end of the curve and the upper left corner of the volatility surface. For long tenor vol (gamma or vega alike) to revive, we need bear steepening of the curve.