Deutsche Bank AG (NYSE:DB) has been under a lot of pressure over the past few months as regular readers of this site already know. However, last night the DOJ delivered what literally could be a fatal blow asking $14 billion (just for starters). Before we continue let me say a few things. Unlike most I will admit in this case I know almost nothing (maybe actually nothing) about complex RMBS laws, DOJ, German and US law in that regard etc. I also understand that there is no good time but the DOJ has sat on its hands for a decade and now when Deutsche Bank which is teetering on the brink they ask for a massive amount of money. I mean could they not pick a worse time? But i guess blame the Krauts works well in America (see 1917-1949 and 194-1949 – although in both those cases the guilt was clear). Anyway, let us hope the DOJ does not bring down the entire global financial system in order to placate some votes, trust me no matter how much money DB gives the DOJ (which is basically a transfer from the German Government to the American one) you will not get even a penny in a check from our Government (even if the global financial system does not collapse).
This is serious stuff – as Dave Lutz notes in his morning email:
Deutsche Bank 5-year default probability has leapt to 15.8pc this morning after Deutsche Bank said it has no intention to pay the $14bn demanded by the US Department of Justice to settle an investigation into its selling of mortgage-backed securities – “The negotiations are only just beginning. The bank expects that they will lead to an outcome similar to those of peer banks which have settled at materially lower amounts.” DB said
Peer Banks comment on Deutsche Bank’s settlement with the DoJ
RBC Capital opines:
None of the European banks has settled with the DOJ on RMBS yet so DBK is the first to enter negotiations with Barclays, UBS, CS and RBS also facing this issue. We have included provisions for the other banks in our forecasts ($750m for Barclays, $1.4bn for CS and $600m for UBS) although it is hard to know to what extent they may already carry provisions for this matter. It is the biggest issue for RBS aside from DBK in our view. For RBS we include £2.5bn ($3.3bn) for litigation provisions in our forecasts for the RMBS working group.
We would expect DBK’s final settlement to be significantly below the starting negotiation amount as seen at other banks although it remains uncertain where the final settlement will end up and the final impact on the capital ratios. Resolving this issue remains key for DBK as it will give more clarity on capital, although there are a number of other moving parts – namely the Russian equities investigation and also the IPO of Postbank.
Goldman Sachs notes:
DBK shares reacted positively to the Manager Magazin report of September 9, ending the day +4%. We therefore expect a negative reaction to these latest developments. That said, we stress that the end settlement figure remains unclear and we do not take a view on the final outcome. From a read-across perspective we expect the shares of European IBs which are yet to settle the RMBS issues (CS, UBS, BARC and RBS) to be impacted today.
We think a large portion of the existing provisions are set aside for the RMBS case. Deutsche settled with FHFA for almost $2bn. In our estimates we assume EUR1.2bn P&L litigation charges in H2 2016 and EUR1.5bn in 2017 (EUR1bn in 2018).
Based on our estimates, if DB were to reach a $14bn settlement it could push the Q2 2016 CET 1 ratio to below 9% (fully-loaded) from the 10.8% level in Q2 2016. As a rule of thumb, each EUR1bn charge could push down the CET 1 ratio by c-20bp, all else remaining equal. Compared to its 12.5% CET 1 target level, Deutsche currently has a circa EUR7bn capital shortfall as of Q2 2016. Reducing non-core assets, selling Hua Xia Bank and IPO-ing Postbank should itself materially improve capital ratios, in our opinion.
Credit Suisse has a new report on European investment banks and opined the following about Deutsche Bank:
Litigation is where DBK faces perhaps the greatest near-term risk to earnings and capital generation. While considerable uncertainty exists with litigation matters, in total we anticipate the key cases including US RMBS and Russian mirror trades could cost more than EUR8bn to settle against which DBK has EUR5.5bn in existing reserves. Given a number of other cases, and the potential for residual settlements around larger cases (eg, IBOR), we do not believe DBK would run its litigation provisions down significantly below EUR1bn (ie, “excess reserves” are around EUR4.5bn). As such, we think another EUR3.8bn of litigation expense should be modelled over the medium term, compared with a current consensus of EUR3.3bn over 2H16-2018.
DBK would strongly prefer to settle the cases in 2016, and an early settlement of the US DOJ RMBS case would be a positive for the stock; however, we still expect litigation costs to be a significant drag on organic capital generation through 2017.
What do you think? Comment below.