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Doubts over Deutsche's recovery, as i-bank may thwart 2019 revenue growth

Deutsche Bank AG needs a strong revenue boost in order to hit its return on equity target for 2019, but its corporate and investment bank is still not strong enough to drive growth, especially against the backdrop of tough markets and a slowing economy, according to analysts.

To reach its target of 4% return on tangible equity in 2019 from just 0.5% in 2018, Germany's largest listed bank by assets would need to increase revenues by between 4.5% and 5%, analysts have estimated.

Tough markets make the ROTE target "elusive," HSBC equity analyst Alevizos Alevizakos said in a note on Deutsche's 2018 results. Based on its 2019 revenue forecast for the bank, Citigroup sees Deutsche's ROTE at around 1.4% this year and at a low- to mid-single-digit level in the foreseeable future, analyst Andrew Coombs wrote in a note. Citigroup projects revenues of some €25.1 billion, compared to Deutsche's own implied target of around €26 billion.

The S&P Global Market Intelligence mean consensus estimate for Deutsche's return on equity in 2019 stands at 2.12%, with forecasts ranging from 0.9% to 4.2%. The consensus estimate for group revenues this year stands at €24.96 billion, with even the highest forecast of €25.72 billion standing below Deutsche's own target.

Revenue drags

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Deutsche CEO Christian Sewing said the bank can achieve the 4% ROTE target, as most of the growth will come from measures under its control.

These should account for around 2.5 percentage points of the total ROTE target and include €1 billion of adjusted cost reductions, €300 million in savings from balance sheet and liquidity optimization, a normalization of the group's tax rate to 35% and expected growth in stable businesses.

Even if Deutsche succeeds on all points, it will still need to grow revenues by 5% to meet its 2019 return target, equity analysts at German private bank Berenberg said in a note Feb. 4.

"Considering the environment, we believe this will be difficult to achieve," they said. Even generating revenues at the 2018 level is a rather optimistic assumption and will only result in a ROTE of 2.5%, the analysts noted.

Sewing said an "extremely unfavorable" market environment for investment banking, such as that seen in the fourth quarter, would pose the biggest challenge to the targeted ROTE.

The corporate and investment bank, or CIB, unit still accounts for over half of group revenues, and recovery there is key for total growth. Deutsche counts on improved client activity, better markets and recovery of lost CIB market share to deliver around 1.0 percentage point of the total ROTE target in 2019.

CIB

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Deutsche's freshly restructured CIB unit reported a pretax loss of €303 million for the fourth quarter of 2018, while revenues fell 5% to 2.60 billion. Full-year pretax profit was down 52% year over year to €530 million, and revenues declined 8% to some €13 billion.

But Sewing, who spearheaded the unit's restructuring since he took over as CEO in April 2018, noted there are signs of improvement even amid the weak fourth-quarter results as transaction banking revenues grew 5% year over year on the back of higher net interest income and transaction growth.

Deutsche is confident it could recover lost market share by targeted investments in the transaction bank and its fixed income and currencies business where the group still ranks among the top providers globally and in Europe, he said.

The German bank ranked first in credit and third in G10 foreign exchange globally, according to the latest Coalition league table for the first half of 2018. The group ranked second in both fixed income, currencies and commodities and overall investment banking revenues in the Europe, Middle East and Africa region.

The CIB revamp was focused primarily on reducing volatile revenues streams and included cuts mainly in the group's equities business alongside a reduction in U.S. rates. The transaction bank accounted for most of the CIB revenues in the fourth quarter of 2018 with €996 million in revenues, followed by the fixed income and currencies business with €786 million, origination and advisory with €411 million and equities with €379 million.

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"[W]e certainly believe also in improved markets versus the fourth quarter of 2018," Sewing said. "And if the revenue environment does not develop as we expect, we will seek additional savings."

More time

Cost reduction is one of Deutsche's key strategic goals. The bank brought adjusted costs down to €22.8 billion in 2018, below its original target of €23 billion. It also changed its 2019 goal to €21.8 billion from €22 billion.

Although the cost reduction is positive and will contribute to increasing returns, and although the reshaping of the CIB unit has put it on a recovery track, Deutsche will need at least one more year to reach the return on equity it aims for, analysts have estimated.

What could potentially help the group grow at a faster pace would be stronger-than-expected economic growth in the eurozone, potential interest rate hikes in Europe and a better-than-expected capital market environment.

From a current point of view, however, the group is faced with market and macroeconomic headwinds in Europe and globally as well as the negative effects of geopolitical events such as Brexit and global trade tensions. Idiosyncratic risks such as the money-laundering probes against Deutsche in late 2018 may also impede its recovery.

Litigation and related headline risk is a bigger risk to Deutsche's efforts to restore its franchise than to its solvency, S&P Global Ratings said in a report in late December 2018.

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Want to see the performance of different business segments for a bank? Go to the bank's profile on the website and check the "Segment Analysis" page found on the left-hand side panel under the section "Financials." Here is an example for Deutsche Bank.

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