Past Can Haunt You

The Global Financial Crisis (GFC) of 2007-2009 was initiated by the mortgage crisis in the United States. Then, it was exacerbated by the collapse or near-collapse of many big and small financial institutions, most notably being Bear-Stearns, Lehman Brothers, Merrill Lynch and American Insurance Group (AIG).

The major concerns were regarding the solvency of these institutions. The management of these companies said that they were solvent and only had liquidity issues but the market participant thought otherwise. In the case of Bear Stearns, the Wall Street Journal wrote,

The firm spiraled from being healthy to practically insolvent in about 72 hours. The meltdown began in earnest the evening of Thursday, March 13, 2008, when Bear executives made a shocking discovery: They were nearly out of cash. Faced with a slew of withdrawals from worried clients and a sudden pullback from lenders, the firm had less than $3 billion on hand — not enough to open for business on Friday.

Bear Stearns was saved but Lehman was allowed to go bankrupt as Federal Reserve doubted its solvency. The former CEO of Lehman Brothers, Dick Fuld, still believes that Lehman was not insolvent rather it had liquidity problems.

Why these concerns are important? Because many big and small institutions involved, either as clients, lenders or counter-parties, would be negatively affected by the sudden demise of these banking institutes. If they think that their partner may not be able to repay them later, they pull their money out, which creates liquidity problems for the troubled bank.

It doesn’t take long for this liquidity crunch to lead to insolvency as GFC showed us and as James Mackintosh writes in WSJ, “Eight years ago this month, Lehman Brothers failed in large part due to panicked hedge funds pulling their money.” Once the exodus started, Lehman found its liquidity problem almost impossible to overcome.

Since the GFC induced great recession, market has been afraid of similar situation arising and any whiff of a big bank’s insolvency concerns sends it panicking. Something like that is happening recently courtesy, Deutsche Bank of Germany.

Deutsche Bank is facing major problems and it is so big in Europe, and globally, that its liquidity and solvency concerns will affect many global entities, including small investors. So it behooves us to investigate and determine whether we should be concerned and, if so then, when?

Having A Bad Time?

Deutsche Bank (Monthly – 30-Sep-16)

STOXX Europe 600 Banks

Deutsche Bank has been in the news for many months. In June 2015, one of its two co-chief executives, Anshu Jain, stepped down following an investor unrest over the direction of the bank. The other co-CEO,  Jürgen Fitschen, will leave next year. The investor unrest came after the bank paid a slew of fines, including a record $2.5 billion Libor-rigging fine in April 2015, and announced its five-year strategic plan.

The monthly chart of Deutsche Bank, on Frankfurt stock exchange, shows the it is trading at the lowest level since 1989. This is pretty bad until you compare it with the STOXX Europe 600 Banks index, which is also at a very low level, although not at all time lows. Still, the broader bank index is in slightly better shape than Deutsche Bank.

The bank’s stock price have done poorly for a long time, on account of many bad news, bad European financial situation and its own performance issues. Many bearish chart-patterns on monthly, weekly and daily charts were emerging that were indicating much lower targets.

in August 2015, the price broke below a symmetric triangle on monthly time frame. The height of this pattern is 39.27 points – from a low of 13.36 in January 2009 to a high of 52.63 in April 2010. The breakdown, from the apex, was near 30.27. The low on September 30 was 9.89, which is more than 505 of the height of the triangle. The 14-period RSI on monthly timeframe is showing a divergence. The RSI was 19.383 during the previous low of 13.36 in January 2009. In October 2016, the price made a new low but the RSI declined to 30.547.

Fresh Blows

On September 16, U.S. Justice Department proposed a fine of $14 billion on Deutsche Bank to settle mortgage-securities claims. The news quickly tanked the stock price and it fell more than 24% from September 15 close.

Since then market has been speculating whether the bank has enough reserve to meet the fine and out-flow of money due to its clients cutting back exposure to the bank. The help from German government is doubtful due to politics, at least at the moment.

The latest episode started with a Bloomberg News report on Thursday September 29 that a number or funds that clear derivative trades with Deutsche Bank have withdrawn some excess cash and positions. Its shares on NYSE fell and closed -6.7% below Wednesday’s close even though the shares on Frankfurt exchanged closed up for the day. The S&P 500 also took the hit and dropped -0.9%.

Good News, Maybe

Bloomberg identified ten people who would be key in resolving Deutsche Bank’s future. Four of them, Bill Baer or U.S. Justice Department, Angela Merkel, German chancellor, Wofgang Schaeuble, German finance minister and Mario Draghi, ECB president hold the key that would save the bank.

The first good news came on Friday September 30 with a reported possible settlement $5.4 billion with DOJ instead of the original $14 billion. This amount is much below the consensus estimates. The bank had earlier set aside €5.5 billion for litigation.

Before the news, banks share in Frankfurt were trading -9.0% below its Thursday’s close but after the news, the price closed up for the day by +0.6% On NYSE, the bank is trading 13.8% above its Thursday close at mid-day.

What’s In Store?

The MACD on 60-minute time-frame made a divergence and staged a bullish cross over, which indicates a short term bounce for the troubled lender in particular and the global market in general. The next resistance is September 16 gap-down high of 13.48, which is about 4% above current levels.

On daily timeframe, the price on XETRA made a large range day. The MACD is also showing a divergence, though it has not made a bullish cross-over. The 14-period RSI is in oversold territory. Along with the RSI divergence on monthly timeframe, this indicates that the bank is ripe for a bounce back.

The critical levels are the gap-down on September 16 and September high of 13.84. The 200-day SMA is at 14.98. A break above these levels will diminish the probability of collapse of the bank.

On the other hand, a break below September 30’s low of 9.89 on Frankfurt exchange or September 29 low of 11.185 on NYSE will be ominous for the bank and for the global markets.