Shares in Germany’s biggest bank have plummeted to 30-year lows this week as losses on stock markets and fears over the global economy prompted investors to flea with their cash.
The situation was so dire that Deutsche Bank CEO John Cryan was forced to issue a statement to reassure investors that the bank is “absolutely rock solid” on Tuesday and would continue to make scheduled payments.
That Deutsche Bank has been under major duress has been known for some time, but it could well be the first major bank to collapse in the next stage of the banking crisis.
Credit Risk on Deutsche Bank Reminiscent of Lehman Crisis
Credit risk on Deutsche Bank has exploded with the discount rate on a Deutsche Bank Credit Default Swaps (CDS) at record highs. This is reminiscent of the pre Lehman bankruptcy week of 2008, according to zerohedge.com.
A credit default swap (CDS) is a swap agreement that the seller of the CDS will compensate the buyer in the event of a loan default. This means that the seller of the CDS insures the buyer against some reference loan defaulting. When a bank looks like its about to go bust, investors flock to these swaps, because they pay out when the bank goes bust, and therefore the CDS rate spikes up.
There has been a sharp spike in the discount rate of the Deutsche Bank CDS in 2016.
The trajectory is very similar to the discount rate of the Lehman CDS in the week prior to the 2008 global financial crisis.
DB’s soaring CDS mirrors the Lehman CDS curve, pre-2008 crisis.
The Stock May be Already Reflecting the Crisis at DB
The Deutsche Bank stock is currently trading at less than 50 percent of the share price it was trading at last year. And if anything, the market may be understating the extent of the trouble that’s brewing.
Why DB’s Collapse Could be a Nightmare for the Global Economy?
Unlike the collapse of Lehman Brothers in 2008 which the US central bank was able to contain thanks to the $13 trillion in bailout funds, a failure of Deutsche Bank would trigger a big systemic banking contagion.
Deutsche has a huge exposure to the derivatives market, and it will be a tall order for any government to bail out the bank should things go awry. Keep in mind the exposure of Deutsche Bank to its derivatives portfolio is a stunning $60 trillion. That’s almost 20 times the GDP of Germany which stands at $13 trillion. And the fact that the banking sector is under pressure suggests that the problem may already be spreading to other banks.
A larger crisis may also have severe implications not just for the world economy but also the euro. And in the event of a bailout, the taxpayer will once again be called upon.
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