Deutsche Bank, Lehman and the End-of-Days Debate
Aftershocks from the credit crisis eight years ago are still rippling through the world, including negative rates, swollen central bank balance sheets and increased scrutiny of the financial system. One consequence is the commentariat's effort to atone for its failures then by crying wolf at every available opportunity now.
Eschatology -- the branch of theology that studies the end of all things -- is in fashion, with every missed economic indicator a harbinger of recession, every undershot inflation target an example of central bank failure, every troubled company a sign of an industry going to the dogs.
But there's a growing risk that financial commentators, be they market analysts, investors or journalists (myself included), are jumping at shadows of 2008. This eagerness not to be blindsided a second time risks fatiguing sensitivities, dulling our instincts for truly threatening developments.
Nowhere is this more apparent than in the enthusiasm to describe each and every instance of financial market stress as a potential "Lehman Moment," be it Volkswagen's emissions debacle or Glencore's rush to reduce its debt burden a year ago. The latest excuse is Deutsche Bank's collapsing share price.
Here's a chart showing how the German firm's latest travails coincided with the spike in Lehman mentions during the annual anniversary of its demise, resulting in an extension of the phrase's popularity past the month of remembrance:
Imagine you run a hedge fund and your friendly financial journalist calls up and says "hey, we hear people are curtailing their relationships with Deutsche Bank, how about you?" Chances are that might prompt you to take a look at your spreadsheet and decide that your next trade or settlement may as well be conducted with some other bank on your list of counterparties, just to be safe -- even though you have zero financial concerns about the risk of having any exposure to the German behemoth. In the current febrile environment, the risk of self-fulfilling prophecies is high and rising.
That said, Deutsche Bank has no-one but itself to blame for the speculation about its survival prospects. The best efforts of regulators to solve the too-big-to-fail problem by prompting banks to shrink don't seem to have had much effect on the Frankfurt-based institution's asset base, which is even bigger than it was in 2012 and has grown relative to the economy it's supposed to serve.
In 2003, Germany's gross domestic product was three times the size of the assets of its biggest bank. By last year, Deutsche Bank's balance sheet was worth more than half of the entire German economy; put another way, if the Deutsche Bank asset book was the GDP of a country, it would rival Italy's entire annual output:
A bank with assets of 1.8 trillion euros ($2 trillion) shouldn't much care whether the U.S. Justice Department fines it $5 billion, $10 billion or $20 billion. No matter how big the eventual punishment, it certainly shouldn't be an existential threat for an institution of Deutsche Bank's size. The fact that it is testifies to the failure of European banks to sock away sufficient capital for a rainy day.
Part of the problem, though, is that bank accounting statements remain scarily opaque. So no-one really knows what lies beneath Deutsche Bank's headline figure of about 46 trillion euros (yes, trillion) of gross notional exposure to the derivatives market or whether, as my Bloomberg Intelligence colleague Jonathan Tyce calculates, that figure genuinely plummets to just 41 billion euros (still a very big number) after counting pledged collateral and netting off what the bank owes other versus what other owe it.
The biggest "known unknown," however, is whether the German government would have the courage to stand aside and let the bank fall off the cliff. No-one knows if Deutsche Bank is too big to fail or too big to save -- not a good place to be.
And this is the most worrying aspect of our current situation. Eight years after the finance industry brought the world economy to its knees, it's still far from clear that there isn't another disaster lurking deep in some obscure corner of their trading activities. Nevertheless, those of us who make our living lifting up financial rocks and describing what wriggles beneath should resist the urge to speculate about snakes when all we can really see are worms.
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