No end to Deutsche Bank’s problems: new litigations in the US and frailty in EU stress test

Deutsche Bank Towers – Walkway from Tower A to Tower B. Headquarters in Frankfurt am Main. (Deutsche Bank Audiovisual Services, August 6, 2015).

Deutsche Bank Towers – Walkway from Tower A to Tower B. Headquarters in Frankfurt am Main (Deutsche Bank Audiovisual Services, August 6, 2015).

Last Wednesday, Deutsche Bank’s shares fell by 4.5% in the first hour of trading in Frankfurt, after the bank released its second quarter results, showing a measly profit of €20 million, in comparison to €818 million last year. The percentage fall of this stock is the biggest ever in such a brief time in the Deutsche Boerse, regarding a blue-chip share, constituent of the DAX index. However, apart from the problems the largest German lender has in relation to its crumbling credit worthiness and disappearing profits, new ones were added last week.

More New York litigations

Firstly, it’s about a new law suit. According to major English language business media, New York judge Deborah Batts decided to proceed litigations against the bank, staged by plaintiff customers who argue that in 2007 and 2008 it knowingly sold subprime products to them, without duly releasing information about the risks associated with those ‘investments’. In this affair, financial products of $4.5 billion are at stake, related to the, at the time, sinking real estate market. Allegedly, Deutsche customers were not informed about that. Let’s not forget that this is a New York Manhattan judge. There is more trouble for the German lender though.

Thirsty for capital

Secondly, but not of less importance, last week the European Banking Authority (EBA) published the results of its resilience stress test of a possible crisis, on 51 big Eurozone lenders. In this trustworthiness check Deutsche ranked tenth from bottom, well behind all its European peers. According to the test results, Deutsche, in case of a financial mess, would lose around one third of its capital. It is found that it would drop to 7.8% from 10.8% at the end of last year.

This EBA’s test result is interpreted by market pundits as showing massive needs of new capital, which unfortunately the bank is unable to produce by itself. At the same time, other analysts predict that its 2016 profits would oscillate around zero. It is common knowledge that a business which doesn’t produce profits is completely unable to increase its own capital. Let’s return to New York.

IMF and Fed messages

Important financial commentators, well known for expressing the views of the New York’s financial community, are observing that Deutsche didn’t get the messages, emitted by the International Monetary Fund and the American central bank, the Fed. It must be reminded, that the IMF in a recent report about the world financial system found that the German lender is the riskiest of all the major global banks. As for the Fed, it rejected as insufficient Deutsche’s contingency draft plan for a rainy day. All ‘systemic’ banks, and there are eight of them, operating in the US are obliged to draft similar plans.

As far as Deutsche Bank is concerned, both the IMF and the Fed are genuinely expressing the interests of the American lenders based in New York and possibly of the Washington administration as well. It is quite clear that the German bank is not welcome any more to New York and, at least, it has to stop contending the US lenders in their own markets.

Chased away from the US markets

Returning to the US media commentators, they now emphasize that this German financial group is not applying a strategy to drastically reduce its activities in the chaotic investment banking universe. On the contrary, Deutsche, unlike any other major European bank, insists on expanding its exposure to all the risky but very profitable markets, which come under the term of ‘investment banking’. It’s about CDSs, all kinds of derivatives and many more risky products. The same analysts note that all the other big European lenders are already applying strategies to reduce their exposure to investment banking.

In a way of speaking, those market analysts tell Deutsche, that it’s high time it left the investment banking to the American banks, and it complied to the ‘messages’ as all the other European banks did. In reality, the Americans are telling the Germans they are the last not to obey New York and Washington ‘orders’, and to leave these lucrative but risky ‘investment banking’ markets to the US lenders. Undoubtedly, this is a direct warning to leave this grey banking universe to its creators, the big New York banks.

Indemnities and fines

The last case in this New York battle is this judge’s decision, to open the way for the Deutsche customers to win hefty compensations. She also threatens the Germans with heavy fines. Truly, in the core of this case are the causes of the 2007-2008 financial meltdown and Deutsche Bank may find itself in the position of the only culpable party. If the plaintiffs win their case, the German lender may face more law suits for indemnities regarding more subprime securities exceeding by far the $4.5bn. There are many more financial products which were sold at that time as solid investments, but in reality, were just rubbish.

As things turn out, Deutsche Bank may held as the only identified culpable party involved in this nasty affair. No American bank was ever bluntly condemned for the same reasons. A New York prosecutor, who introduced such a case a few years ago, just closed it down, after having ‘found’ no substantial proofs to prosecute the US lenders for having cheated their customers. In this way, all the major American banks got away with having brought the whole world to its knees in the financial fallout of 2007-2010.

Sole culpable for the Armageddon?

Even the big three rating agencies, Moody’s, S&P and Fitch-IBCA were not convicted for having rated junk financial products as triple ‘A’ investment goods. Together with all the major Western banks they are the main culpable parties for encouraging the subprime financial product market to grow to such volumes, up to the point that, when bursting in 2007-2008, they threatened the whole world with an unseen before financial meltdown and a real economy Armageddon. Now the Americans seem to hold Deutsche Bank solely responsible for all that.

Unfortunately for the Germans, Deutsche Bank is currently a perfect victim, because of its very weak financial position, to be blamed though wholly on its own utterly imprudent steps. Today, with nonexistent profitability prospects, the creation of new capital with Deutsche’s own means is absolutely impossible.

Demanding more subsidies

As a result, the Germans recognize that very loudly. In this respect, two weeks ago David Folkerts-Landau, Deutsche’s chief economist, demanded capital injections with taxpayers’ money of at least €150 billion, to be infused to all the major Eurozone lenders. Of course, he must have had in mind that a good part of it should go to his employer. Reportedly, his bank urgently needs an absolute minimum of €7bn in capital increases. That is, on top of the hundreds of billions in public subsidies all the ‘systemic’ Eurozone banks have received after 2007.
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All in all, the truth remains that Deutsche Bank is amongst the few ‘systemically’ more important banks of the globe, so it ‘cannot die’. Given that, the Americans would press it up to the point as to make the Germans pay dearly for the bank’s rescue and probably for something more. The same scenario may be used for other ‘too big to fail’ or ‘systemic’ but ailing Eurozone lenders. It’s the same old story the taxpayers will again be called in, to save the ‘undead’ bankers. The American taxpayers have done that already and in a more efficient way.

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