If you’ve been following developments on international markets, you’ll have noticed that the fall in Deutsche Bank AG shares in Europe have led to losses in financial shares around the world. In this article, we will brief you on the Deutsche Bank crisis.
Who is Deutsche Bank AG?
Deutsche Bank AG was founded in 1870 in Berlin as a bank specialising in foreign trade. Today the bank’s headquarters are located in in the Deutsche Bank Twin Towers in Frankfurt, and it offers global banking and financial services. Deutsche Bank is now the second largest investment bank in the world, with cumulative assets worth 2 trillion EUR and deposits over 570 billion EUR. It has more than 100,000 employees in over 70 countries. The company was part of the STOXX Europe 50 stock market index until 8 August 2016, when it was removed from the index.
What’s the story?
The company is on the verge of bankruptcy. In January 2014 Deutsche Bank reported a €1.2 billion ($1.6 billion) pre-tax loss for the last quarter of 2013, despite a profit prediction of nearly €600 million. Then in January 2016, Deutsche Bank pre-announced a 2015 loss before income taxes of approximately €6.1 billion and a net loss of approximately €6.7 billion. A bank analyst at Citi then declared that he saw an equity shortfall of up to €7 billion, due to the fact that the bank may be forced to face another €3 billion to €4 billion of litigation charges this year.
Perhaps the crux of the company’s financial problems, Deutsche Bank has massive exposure on the derivative market, with a sum of just under EUR 55 trillion - higher than global GDP. 70% of all derivatives are interest rate derivatives, secured with government bonds. After government bonds reached their highest price in February, prices began to fall and with them the value of securities that underpin derivatives.
The last straw is the threat of a USD 14 billion fine for artificially propping up the US housing market before the financial crisis of 2008 - which is approximately the market value of the entire bank. Concerns for the health of the bank are pulling down its share price, along with those of the rest of the global banking sector.
A history of bad behaviour?
Described by the IMF as the world’s most dangerous bank, Deutsche Bank’s name seems to crop up again and again when it comes to allegations of illegal transactions and dodgy behaviour. It is currently involved in about 7,800 legal disputes and has set aside EUR 5.4 billion as litigation reserves and another EUR 2.2 billion for contigent liabilities.
- 1999-2006: Deutsche Bank was caught assisting countries evade US sanctions, clearing transactions valued at over USD 10.86 billion. They have been ordered to pay penalties to the New York State Department of Financial Services and the US Federal Reserve Bank.
- 2001-2007: Deutsche Bank spied on its critics, and the bank’s legal department and corporate security department were in on the espionage.
- 2007-2008: The bank has been accused of artificially supporting the US housing market, the collapse of which led to the financial crisis of 2007-2008: The US Department of Justice is demanding a USD 14 billion settlement.
- 2012: The bank was involved in the Libor scandal of 2012 and pleaded guilty in 2015, with 29 employees engaged in illegal activities and fraudulent transactions. They have been fined EUR 227 million for poor management of traders, as well as the failure to hold individuals accountable after discovering illegal activities.
- 2014-2015: The bank remains under investigation for possible sanction violations with respect to the crisis in Ukraine, and illegal activities in Russia.
- 2016: Six employees were accused and most convicted of tax fraud involving CO2 certificates, estimated at around EUR 850 million.
Although such a dodgy history would surely have led many to distance themselves from the bank, several industry leaders from German companies such as BASF, Daimler and Siemens have come forward to defend DB, saying the presence of a German bank was necessary for them to secure access to international capital markets.
But after Deutsche Bank shrugged off responsibility for the company’s stuggles, blaming them on "forces in the market", Germany’s economics minister, Sigmar Gabriel replied: "I didn’t know whether I should laugh or be furious that a bank which turned speculation into a business model now declares itself the victim of speculators."
Deutsche Bank is trying everything in its power to reach a settlement with the US Department of Justice, while the threat of the USD14 billion fine has had a devastating effect on the company’s share price. A rumour has been reported that DB and the DOJ may be close to agreeing on a settlement of USD 5.4 billion, which boosted the bank’s share price somewhat.
Credit ratings agency Moody’s commented that a fine of about USD 3.1 billion would be positive for bond holders, and even a fine of USD 5.7 billion would not seriously harm DB’s capital position.
How will this affect the market?
Meanwhile, investors around the world worry about what the collapse of Deutsche Bank would do to the financial markets, given the turbulence caused by the collapse of Lehman Brothers, a much smaller firm.
The interconnectedness of global banks put them at risk if Deutsche Bank were to collapse. In addition, central banks have already used up most of their capacity to deal with another financial crisis via quantitative easing and lowering interest rates. Deutsche Bank would most probably have to raise money to pay the DOJ’s fine, but so far the German government has denied their asking for help from the state.