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Deutsche's stock hurt by 'overdone' fears of Lehman-like failure

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Deutsche's stock hurt by 'overdone' fears of Lehman-like failure

A historic share price slump on May 31 added to a slew of troubles at embattled Deutsche Bank AG but the market reaction to the news that the German group's U.S. arm had been labeled a "problem" bank by local financial authorities was somewhat exaggerated, according to analysts.

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Deutsche's stock plummeted following a report in The Wall Street Journal saying the Federal Deposit Insurance Corp. had added Deutsche Bank Trust Co. Americas to its list of "problem banks." A Deutsche Bank share was worth just €9.16 at the close May 31, having dropped to a daily low of €9.06 during the session. This is the lowest level Deutsche's stock has reached over the past decade. This was lower than the autumn of 2016 when shares dropped to €9.90 owing to investor worries that the group would face a $14 billion fine by the U.S. Department of Justice over misselling of residential mortgage-backed securities which could impair its ability to pay coupons on its Additional Tier 1 (AT1) bonds. Also known as contingent convertible, or CoCo bonds, these securities are triggered when a bank's capital nears critical levels.

Deutsche Bank's shares were rebounding June 1, trading at €9.51 at 4:04 pm CET in Frankfurt. Nevertheless, this was still below the May 31 opening price of €9.92.

The news caused such a drastic drop in market value as they played into long-standing investor fears that "Deutsche Bank could end up as a second Lehman Brothers," Daniel Regli, vice president of equity research at MainFirst said in an interview. "It was a bit overdone as markets priced in a certain probability of bankruptcy at Deutsche Bank," he said. "The main issue is that, similarly as we saw towards the end of 2016, prime brokerage clients, in particular, withdrew their balances from Deutsche Bank. This could become a topline issue as prime brokerage accounts for €800 million to €1 billion in revenues."

Declining client sentiment in other parts of the business could also affect Deutsche Bank's performance but the recent developments are not likely to affect its general strategy, according to Regli.

Client sentiment

Ongoing investor concerns and change in client sentiment towards Deutsche could affect investment banking and trading revenues. Funding and liquidity could also suffer if the group loses deposits or if its ability to refinance wholesale funding is impaired, DBRS analyst Lisa Kwasnowski said in an interview.

The decision of the U.S. authorities was mainly focused on lack of technological improvements at the U.S. subsidiaries of Deutsche Bank. "We already know that Deutsche Bank has some challenges with systems and technology so I don't think the regulatory perspective was a huge surprise," Kwasnowski said. "Unfortunately for Deutsche they are in a position where they are the weak global bank, so anytime negative news comes out they are going to be the focus of investor concerns ... [and] any kind of negative news will probably result in an overreaction just because of where they are positioned. We saw [that] yesterday and it can certainly happen again," she said.

S&P Global Ratings on June 1 lowered the long-term issuer credit ratings of Deutsche to BBB+ from A-, with a stable outlook. The downgrade reflects the German lender's updated strategy which S&P said "envisages a deeper restructuring of the [bank's] business model than expected, with associated non-negligible execution risks."

Deutsche Bank's new CEO Christian Sewing issued a letter to staff June 1 in which he said the U.S. subsidiaries under the review of the authorities are "all very sound" and the group is well capitalized with a 13.4% common equity Tier 1 ratio, well above the regulatory requirement of 10.65% and liquidity reserves of €279 billion.

Responding on Twitter to S&P Global Ratings' downgrade, Deutsche Bank said "the downgrade affects our preferred senior unsecured debt, which makes up a small proportion of the bank’s total funding base. All other ratings were affirmed. We remain in investment grade territory with all leading rating agencies."

This S&P Global Market Intelligence news article may contain information about credit ratings issued by S&P Global Ratings, a separately managed division of S&P Global. Descriptions in this news article were not prepared by S&P Global Ratings.