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Deutsche Bank AG and Commerzbank AG will have a tough time convincing regulators a merged bank would not pose too much systemic risk, should they decide to pursue a tie-up, according to regulation experts and analysts.
Germany's two biggest privately held banks have both struggled in the aftermath of the global financial crisis, and a merger has been mooted as a possible solution. But regulatory warnings about threats to financial stability started to pile in just a day after the firms launched exploratory talks.
Achim Wambach, head of the German Monopolies Commission, told local media March 18 that a tie-up raises serious concerns about resolution, and that a state bailout in the event of failure could not be ruled out. Isabel Schnabel, member of the German Council of Economic Experts, told the Financial Times if the deal is approved one could never allow such big bank to fail.
Andrea Enria, chairman of the ECB's Single Supervisory Board, said there should be additional capital requirements if a bank becomes too big and interconnected, and his comments were echoed by the EU's Single Resolution Board.
Financial stability concerns
An entity of this size "should raise serious too-big-to-fail and financial stability concerns," according to Rym Ayadi, a professor at Cass Business School in London and chair of the European Banking Authority's Banking Stakeholder Group.
A merged group would definitely need to boost its bail-in buffer to ensure it could withstand potential external shocks, she said in an interview. However, with the current state of resolution regulation, the German government would probably be involved in a rescue if it were to fail, she added.
A Deutsche-Commerzbank deal is not what EU regulators meant when they called for more consolidation in European banking, according to Ayadi. Creating too-big-to-fail entities with risky business models raises concerns about competition, the financial system and consumers, she said.
The EU's current Bank Recovery and Resolution Directive is not fit to deal with the failure of such large banks, she said.
According to an April 4 report from S&P Global Ratings, whether the post-crisis resolution regimes prove effective will depend not only on a failing bank's bail-in buffer, but also the strength of its liquidity position, the ability of resolution authorities to act swiftly and decisively, and the timeliness of communication with the market during the resolution action.
Higher capital requirements
The systemic nature of the merged group will likely push it into a higher additional capital bucket than the one Deutsche currently sits in, Ayadi said. At least three other academics and equity analysts who spoke with S&P Global Market Intelligence support that view.
Based on the 2018's score of Deutsche and Commerzbank, a merged group would probably face higher requirements under the framework for global systemically important banks, G-SIBs, Credit Suisse equity analyst Jon Peace said in an interview.
The bank scores, as defined by the Basel Committee for Banking Supervision, are based on five categories including size, cross-jurisdictional activity, interconnectedness, substitutability and financial institution infrastructure, and complexity.
As a G-SIB, Deutsche is required to hold additional common equity equal to 2% of its risk-weighted assets as a loss absorbency buffer. The 2% bucket is the third-highest and also contains HSBC Holdings PLC and Citigroup Inc.
JPMorgan Chase & Co. is the only bank ranked higher, in the 2.5% bucket. The highest-ranked bucket of 3.5% is currently empty.
Commerzbank is included in the group of other systemically important institutions, O-SIIs, and has a 1% loss absorbency buffer requirement.
Peace said, however, that Deutsche could further restructure its investment bank, reducing its balance sheet and keeping the merged group in the lower G-SIB capital bucket.
Capital, antitrust, strategy questions
A merger would pose a serious capital challenge, Wolf-Georg Ringe, a professor, and director at the Institute of Law and Economics at the University of Hamburg, said in an interview. The banks will need to raise money to make the merger happen, and additional funds to meet higher capital and bail-in-able debt requirements.
Deutsche would probably need a bigger capital raise than it has done in recent years, and its market capitalization is lower than during its last €8 billion capital raise, Peace said. Dilution will therefore be much higher.
Some Deutsche shareholders are uncomfortable with the high end of the €3 billion to €10 billion range recently suggested in a report by Financial Times, according to Peace.
Given the fragmented structure of the German banking market, which is split between savings, cooperative and private commercial banks, antitrust is less of a concern to regulators, analysts said. Savings and cooperative banks hold over half of the domestic retail and corporate lending market.
"On that front, approval should not be difficult to obtain", Octavio Marenzi, CEO of investment firm Opimas said in an emailed comment. Depending on product, a merged Deutsche-Commerzbank entity's domestic market share would be "in the teens," according to Peace.
In any case, to get all regulatory approvals necessary for a merger, Deutsche and Commerzbank would need to produce "a pretty convincing post-merger strategy on how to improve their profitability and address their current malaise," Firdaus Ibrahim, an equity analyst with CFRA said in an emailed comment.
Doubts have been raised about both banks' ongoing multi-year restructuring plans. In the case of Deutsche Bank rating agencies, analysts, regulators and investors have all voiced concerns.