Published: Tuesday 4th October 2016
Read Time: 3 minutes
Deutsche Bank: Will The World See A Repeat Of 2008?
The US Department of Justice (DoJ) fined Deutsche Bank $14bn for mis-selling mortgage-backed securities. If the bank is unable to recover from this hit, it would be the first major institution to collapse since Lehman Brothers. This consequently resulted in Deutsche Bank’s share price falling to a record low of around $10/share. However, it is important to note that this was not the only reason investors lost confidence and its share price fell – the situation is a tad more complex.
The Chronicle Of An Expected Punishment
In actuality, like many other investment banks, Deutsche Bank was expecting a fine from the DoJ for its role in mis-selling – so it is no way alone in this matter. In fact, Deutsche Bank already kept aside $5.5bn in advance – to keep stakeholders satisfied that it is well prepared and will not need to raise any cash in an emergency.
Although this was a reasonably good judgement call, the $5.5bn reserve was no way near enough to cover the $14bn it was asked to pay. Thus, bearing in mind the $8.5bn shortfall, investors and shareholders raised doubts about Deutsche Bank’s ability to raise the extra cash required – leading to a drop in confidence – and share price.
Another key reason is the fact that Chancellor Angela Merkel released a statement that effectively said the German government will not bail out Deutsche Bank if it is unable to support itself.
One may think this is simply a statement and will not have much effect because it is a long-shot scenario. But in reality, many hedge funds and other investors with large stakes in Deutsche Bank started to pull their funds – in case the bank is later unable to stay afloat.
Unfortunately, this has a ricochet effect on other investors, and this spiral can be very lethal for an institution that runs on inflows.
Coming To An Agreement
However, the recent update is that Deutsche Bank and the DoJ will come to an arrangement to reduce the amount to a manageable $5.4bn. As a result, the share price is now slowly recovering.
One thing to take away is that news releases are fundamental to the value of firms – only one speech by Merkel led to a steep drop in Deutsche Bank’s share price. The fact that Germany’s biggest lender is left with no support whatsoever is quite worrying because the bank has generally been seen as “too big to fail.”
For those that are unaware, this is a common phrase used to refer to institutions that, if collapsed, would cause massive damage to the global economy – thus often resulting in government backing as the last resort.
It is also worth noting that Deutsche Bank’s entire market capitalisation is around $18bn – not that far off from the fine amount. Ultimately, no deal between Deutsche and DoJ has been officially signed yet.
So one should keep their eyes open for updates on this and have a look at the share price to see how the markets react (in fact, one hour before this article was finished, its share price dropped once again – demonstrating the volatility and market fear).