Is Deutsche Bank sinking low?

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Australian Economy

 

The past few days have offered a rollercoaster ride for the Deutsche Bank with the US authorities demanding about $14 billion against the settlement on allegations relating to the bank’s mis-sold mortgage-backed securities before the financial crisis. Key things to note include –

Huge settlement claims for Deutsche Bank: Deutsche Bank was asked to pay $14 billion (quite close to its market value) by U.S. Justice Department officials after conducting mortgage securities investigation. However, the bank’s denial has surprised investors as it adds to the stress when the bank’s earnings outlook looks bleak. As a result, the shares of the bank (USA) (NYSE:DB) lost over 6.2% in the last four weeks (as of October 07, 2016). Deutsche Bank’s forward EPS is more than 85% lower than its peak. If the bank agrees for the settlement, then the bank will be left with no funds to settle other legal issues without increasing the capital. Moreover, the shares in Deutsche Bank have already fallen by more than 44.3% during this year (as of October 07, 2016) due to the concerns of hefty charges as its core lending business has also suffered from low interest rates and weak economic growth as well as outflows’ from the hedged funds. On the other hand, many believe that the bank’s core tier-one ratio of 10.8% positions the bank at a stronger level (in terms of financial health) than the financial crisis. Further, €215 billion in liquidity reserves may provide a good cushion. Rest is to be seen with the bank’s negotiation skills to deal with the scenario. The bank might even try to settle this by selling parts of its business. For instance, the bank is trying to have a €1.09 billion deal to sell its Abbey Life insurance business while Chinese approval for divesting its €3.7bn stake in Hua Xia is awaited.

Impact on the Australia’s big four banks: The current situation of the Deutsche Bank has been seen to have a spillover effect on the major banks of the Australia due to concerns over the impact of the German lender on the global banking sector. Moreover, the Australian dollar/US dollar was impacted by this. Going back to 2008 during the banking crisis, all the four major banks collapsed; and without the taxpayer assistance, they would have been unable to refinance their foreign debt as the credit markets froze. They had also used the Commonwealth’s AAA credit rating to borrow $120 billion of fund for refinancing. Meanwhile, Australian banks have assets of more than $4.1 trillion, when compared with the national GDP of Australia, which is just over $1.6 trillion. In the first half of FY 16, the big four banks delivered combined earnings of about $15 billion. Australian banks’ earnings come largely from one industry which is housing. The big four hold 82% of owner occupier mortgages and 85% of investor mortgages. The four major banks have also broadened their earnings base, by entering into the insurance and wealth management and are facing the problem of the default superannuation funds, which have been dominated by not-for-profit industry funds. As a result, banking sector might face peer pressure if Deutsche Bank contributes to another Lehman brothers’ story, which seems to be quite unlikely as of now.

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