Singapore-based financial blog that aims to educate people on personal finance, investments, retirement and their Central Provident Fund (CPF) matters.

Friday, 30 September 2016

Your summary to what's going on in Deutsche Bank: 5x Lehman Brothers crisis

If you have't been aware of how the STI has been performing, it has dropped 1% before steadily climbing up in the late afternoon today. So what's going on that is causing all the fear and volatility? While fear of Deutsche Bank collapsing has been lingering for months, it seems that it has escalated higher where some hedge funds are starting to withdraw their accounts. This is essentially a bank run on a small scale, much similar to the one in 2008 where institutions stopped trading with affected parties due to counterparty risks. Well, before you start withdrawing all your cash positions from Deutsche Bank, here's how it works.

1. If a bank run really happens on Deutsche Bank or if it does go bankrupt, its underlying liabilities and trading exposures will negatively affect the ENTIRE FINANCIAL WORLD.

2. Since banks deal with each other in multiple ways, the results could be catastrophic, dragging multiple parties with it. For Deutsche Bank, where their derivative exposure is 5x the exposure that Lehman had, the impact could be drastically more than just 5x, due to the multiplier effect.

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3. Given the post-Lehman crisis, there are more factors to consider, aided with historical data. Politically, it has been damaging to the current government party as they are faced with 2 lousy choices: Bail-out with the taxpayers' money and suffer a massive drop in voters' ratings, or let the bank fail AND suffer a massive drop in voters' ratings WITH a massive financial crisis.

Even if a bank run does not occur, liquidity risks are going to kill the bank. With mounting concerns of its counterparty risks, Deutsche Bank could have its credit lines cut off, leading to its downfall sooner or later.

While all these are playing out, it is definitely consoling to see that the CEO of Deutsche Bank has done an excellent job in deleveraging, essentially reducing the counterparty exposure of the bank with others. The move to deleverage is widely accepted, hence, the lack of negative news that Deutsche Bank will collapse. This could help to minimize the impact of a meltdown, but let's be honest, a slap to the face would not be much different from a kick to groin.

The main catalyst for STI's 1% drop? The federal's decision to charge Deutsche Bank with a $14 billion fine due to its involvement in the mortgage-backed securities spectacle. Many fear that the bank might not have enough to pay this fine.

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However, I feel that it is likely the "feds" are going to mitigate the impact of the fine, perhaps reducing the quantum or collecting it in other means. The only solution, in my opinion, could be to have the investors or government to step in and raise capital for the bank, which in this case, is particularly damaging to existing shareholders as they have to dilute their shareholdings in the bank. These funds could act as a buffer and "raise" confidence, in hopes of eliminating the growing counterparty risks of Deutsche Bank.

All these bad news are thus hurting the global markets but gold, a safe haven commodity, has been surging and benefiting from all these negativity.

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