Authored by Aaron Brown, op-ed via Bloomberg.com,
The lender is probably more important to the German economy than the GSEs were to the U.S.
It's hard to recall the last time there was good news out of Deutsche Bank AG. Record fines and criminal charges. Restructuring plans with layoffs and write-offs, that don't seem to work. Losses. Senior management infighting. Credit-rating downgrades and new lows for the stock price. Added to a U.S. list of troubled lenders. Only three of the 33 equity analysts following the German lender are positive on the stock, according to data compiled by Bloomberg.
It's no wonder that there's a heightened fear that some bad event will completely destroy faith in Deutsche Bank, leading to its collapse and a 2008-style financial crisis, just as Lehman Brothers Holdings Inc.'s bankruptcy ignited a global financial conflagration.
But Deutsche Bank is no Lehman. Lehman's core problems were bad long-term investments and insecure funding. The recent downgrades of Deutsche Bank's credit rating weren't due to asset impairment, but because it's losing money and has no clear path to profitability. Unlike Lehman, Deutsche Bank has a stable and diversified funding base. Any asset shock that threatened Deutsche Bank solvency would take down most other major banks before the firm. The cost to insure Lehman's debt was 580 basis points six months before it defaulted. Its only 150 basis points for Deutsche Bank.
[ZH: judging by short-dated CDS, the bank's counterparties are not taking any chances]
Deutsche Bank's role in the next financial crisis could be more like Fannie Mae or Freddie Mac. In July 2008, a few months before Lehman fell, the U.S. began the process that would eventually result in a takeover of the two government-sponsored enterprises. The companies, which guaranteed mortgages, suffered losses as mortgage default rates rose and recovery rates fell. The losses caused their stock prices to fall, leading investors to distrust the GSE guarantees. This made it harder to write mortgages, which meant house prices fell, which made everything worse. The government took over the GSEs to restore faith in their guarantees. It was almost three years from the emergence of serious problems at the GSEs to their bailouts.
Like the GSEs, any Deutsche Bank collapse will likely be in slow motion. It holds 124 billion euros ($145 billion) of “total loss absorbing capital,” or TLAC, which is basically stock and bond securities that the firm has the right to convert to equity in a crisis. The amount is about 50 percent above the regulatory minimum. But the market value of these securities is far lower, and probably somewhat below the regulatory minimum. That's not an immediate problem since regulatory minimum isn’t based on market value.
But over time, losses will erode the TLAC, as will maturing debt. Regulatory minimums are scheduled to increase. As Deutsche Bank's TLAC gets closer to its regulatory limit, the...