Wednesday, 07 December 2022

A Analysis

Reggie Middleton

Reggie Middleton

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Aswath Damodoran has weighed in on the Deutsche Bank debacle. For those who are not familiar with him, he is a very prominent NYU Finance professor and author of over 30 books on corporate finance and valuation - and a man whom I respect greatly. As a matter of fact, I cut my teeth on his valuation books early on in my valuation pursuits. That being said, I'm in disagreement with his valuation of DB shares on his blog. On said blog, he went through a quick history of DB's situation and then put together an open sourced model where he found DB to be at least 35% undervalued. The other users of the open sourced model have come to an average price that's even higher.

DB valuation as per Damodoran model median value

I value DB (using Aswath's model, not our own) at a dramatically lower price than everyone on that list, save one. Why the difference? Well, if you remember my videos on knowledge...

Aswath's model inputs err in several ways from our perspective.

  1. They take the reporting of DB at face value. After wading through the notes in the financial statements, that does seem like a good idea. They need to be forensically scrubbed!
  2. The assume the issues that have received a lot of media attention are the only issues that endanger DB. Again, that doesn't seem like a value assumption. Reference the raising capital video below.
  3. The coming dearth of affordable capital is also not being adequately addressed.

DB's capital situation is not as rosy as Mr. El Arian is making it seem. All you, I or Mr. El-Arian has to do is read the balance sheet. Here, I'll do it for you - as excepted from page 5 of Derivative Risk Exposure of Major Banks to Deustche Bank:

Reference the video below...

The DOJ fine is but one in a cacophony of litigious sounds to be heard...

Aswath's stuff:

  1. My valuation of Deutsche Bank
  2. Global Banks - Data
  3. Google Shared Spreadsheet: Crowd Valuation of Deutsche Bank

Our stuff:

Knowledge subscribers of any level can email me at reggie AT veritaseum.com to get a copy of Aswath's model with a few of my assumptions and comments in it. Feel free to leave your own comments as well.

Click here for our paid research on DB risks and click here for our more comprehensive EU Bank Crisis research - European Bank Contagion Assessment, Forensic Analysis & Valuation

More free links on the topic...

Why Do So Many Financial Pundits Try To Downplay the Obviously Serious Financial Problems of Deutsche Bank?

 

Here's What A Real, Live Veritaseum 5x Short DB Smart Contract Looks Like to Our Research Subscribers 

db research dynamic market driven rebate

 If you haven't heard, we're giving out free, fully smart contracts as a 5% rebate to anyone who purchases any of our research packages above the introductory novice $50 level. This is not your Daddy's rebate! The rebate actually gets larger as DB goes down in price. For those who may be coming late to the party, we can offer a 5x long gold (or even a long gold, short DB) smart contract rebate as well. Of course, the bulk of our research targets banks and entities other than DB, but I thought we'd make DB the subject of the rebate to drive the point home. Below is an actual contract crafted off of the price of a single share of DB for about 2 weeks.

 

The research and knowledge subscription module "European Bank Contagion Assessment, Forensic Analysis & Valuation" contains a full report of a very large European Deutsche Bank counterparty that faces a full 27% downside from current levels. It appears as if no one suspects a clue. It also contains much, much more (including at least 3 to 5 suspect banks). We can break this apart a la carte, if requested.

As excerpted:

Susceptible Bank 1: Financial Modeling

 

db research dynamic market driven rebate

I noticed that most in the financial community are going out of their way to demonstrate that Deutsche Bank is not a Lehman 2.0. They are probably right, its most likely a Deutsche 1.0! Mohammed El-Arian has penned an article in Blloomberg, which I'll excerpt as follows:

Yes, there are questions about the bank's balance sheets, including the complicated valuations of "level 3" assets. But Deutsche Bank's sources of funding are much more diversified and its balance sheet is significantly more robust that Lehman's ever was. Also unlike Lehman, Deutsche Bank has access to emergency funding at a central bank, in this case, the European Central Bank.

The greatest portion of DB's funding comes from it's depositor base. The funding is also the most transient, literally being able to be called away at a moments notice. This is not dooming and glooming either. There's a very credible reason why depositors would (and probably should) pull their money out of DB, and that is a total lack of adequate compensation for the risks assumed. This video explains it all, and you can even reference the spreadsheet here to run your own numbers.

One of the causes of this inability of DB to properly compensate its investors for the risks that it entails is the synthetic manipulation of rates by the ECB and their NIRP policy, and its actually getting much worse. You can even quote Bloomberg - Negative-Yielding Bonds Jump to Almost $12 Trillion. I've written a lot about a depositor and counterparty-led run at DB: 

And back to the article at hand...

And it has internal means of generating capital (including through asset disposals and even a rights issue), even though the more such methods are used, the less attractive they are to management and existing shareholders. Moreover, given its accumulated litigation reserves, the pressures would also lessen if, as was hinted at in some news reports at the end of last week, the bank reached a settlement with the U.S. Justice Department that required it to pay far less than the original fine of $14 billion.

DB's capital situation is not as rosy as Mr. El Arian is making it seem. All you, I or Mr. El-Arian has to do is read the balance sheet. Here, I'll do it for you - as excepted from page 5 of Derivative Risk Exposure of Major Banks to Deustche Bank:

DB Captial Demand vs. Supply

'Nuff said.

The environment is quite different, too. Deutsche Bank is not part of a growing storm making its way through the global financial system. Although some European banks remain fragile, others around the world have notably strengthened their capital cushions, are deploying more prudent liquidity-management approaches, and have made significant progress in cleaning up their liabilities. Importantly in terms of systemic effects, this is particularly the case for U.S. banks.

bank funding stresses

bank funding stresses1Yes, Mr. El Arian, but those very same banks are standing as counterparties to these troubled banks of size. As a matter of fact, they are the hedges for the troubled banks - a direct means of contagion. The European banks have not cleaned up their liabilities in the form that most people would be led to believe. They purchased financially engineered instruments to shift the "economic risk" off balance sheet and onto someone else's, or at least that's what they would have one to believe. They are not selling off bad assets, they are writing CDS and TRS on top of them. This only works when the other side pays up. This will not happen if everyone requested payment at the same time, as was the case with AIG, MBIA and Ambac 9 years ago. There's a very big difference between selling and asset and buying a contract that says you are getting protection to the downside of an asset, particularly if you are buying said contract from someone who is in a very similar industry and situation that you are in. Correlation risk! Speaking of correlation and risk... European Banks Cutting 20,000 Jobs as ING Joins Commerzbank

Here's What A Real, Live Veritaseum 5x Short DB Smart Contract Looks Like to Our Research Subscribers 

db research dynamic market driven rebate

 If you haven't heard, we're giving out free, fully smart contracts as a 5% rebate to anyone who purchases any of our research packages above the introductory novice $50 level. This is not your Daddy's rebate! The rebate actually gets larger as DB goes down in price. For those who may be coming late to the party, we can offer a 5x long gold (or even a long gold, short DB) smart contract rebate as well. Of course, the bulk of our research targets banks and entities other than DB, but I thought we'd make DB the subject of the rebate to drive the point home. Below is an actual contract crafted off of the price of a single share of DB for about 2 weeks.

 

The research and knowledge subscription module "European Bank Contagion Assessment, Forensic Analysis & Valuation" contains a full report of a very large European Deutsche Bank counterparty that faces a full 27% downside from current levels. It appears as if no one suspects a clue. It also contains much, much more (including at least 3 to 5 suspect banks). We can break this apart a la carte, if requested.

As excerpted:

Susceptible Bank 1: Financial Modeling

 

I've dedicated three articles on a customer and counterparty run on Deutsche Bank.

  1. Revisiting the Run on Deutsche Bank: Making the Hypothetical Frighteningly Realistic - You've Been Warned!
  2. The Next "I Told You So" Concerning Deutsche Bank Will Hurt Depositors... A Lot! 
This morning, Bloomberg reports that it's getting real, reporting Cryan Defends Deutsche Bank as Some Clients Pare Back Exposure. Millennium, Capula are among counterparties shifting positions. I warned about the counterparty run in Deustche Bank and the Anatomy Of A European Bank Run: Look at the Situation BEFORE The Run Occurs. As quoted from the Bloomberg article:

Deutsche Bank AG Chief Executive Officer John Cryan rushed to shore up confidence in his beleaguered lender after concern some clients are reducing exposure to the company pushed shares to record lows.

The bank’s balance sheet is safer than at any point in the past two decades, Cryan told staff in a memo Friday. “Trust is the foundation of banking. Some forces in the markets are currently trying to damage this trust,” he said

This is more than just trust, it's common sense. I am in no way trying to undermine trust, but I am all if on the truth. On April 14 2015 I penned "Fu$k the Fundamentals!": Negative Rates In EU Will Absolutely Wreck the Very System the ECB Sought to Save. I have been warning Veritaseum users about the unbridled risks the ECB is taking with its banking system by slamming its yield curve - driving short and medium term rates negative. Yes, the ECB needs to get much more blame than those who are asking investors to use common sense. The extremely low rate that DB pays its investors comes nowhere near the risk they are asking said investors to take. To wit, let's explore what the talking heads on Bloomberg had to say:

Analysts also came to the bank’s defense. Stuart Graham at Autonomous Research LLP wrote that Deutsche Bank has enough readily available funds on hand to weather more than two months of severe stress, including trading clients pulling back. Goldman Sachs Group Inc. analysts led by Jernej Omahen said the lender can also access backstops from the European Central Bank.

“Deutsche has many problems, but liquidity is not one of them,” Graham said in a note. “There can be no doubt that Deutsche could access significant additional liquidity from the ECB, should it ever need it.”

Just the mere discussion being had above tells us this far from a risk-free investment for depositors. If it has the risk, even the alleged lower risks being claimed above, why should investors settle for a mere .05%. That's right, .05%
 
 
 

For those who many not remember, DB is domiciled in a bail-in regime state, hence... In case of bankruptcy or risk of bankruptcy of a banking institution, the saver is at risk of losing their savings or may be subject to a reduction / conversion into shares (bail-in) of the amount of the claim that he has the financial setting on top of the amount covered by the double German guarantee scheme for deposits.

Now, what would it look like if one wanted to be compensated for said risk?  Deutsche Bank is essentially a high yield (junk) play that only pays .05%.

If you are going to take risks with a junk company, you might as well get compensated for it. The PIMCO high yield, short duration bond fund (HYS) has arguable a superior risk profile, and pays 93x more. That's right, it pays 9,300% more than Deutsche, for arguably less risk of absolute loss, albeit materially greater risk of price volatility. So, which would one rather, an 80% chance of losing some of your money or a 5% chance of losing nearly all of your money? Hmmm....

 
Here's the disclaimer for the trust: Units of the Trust are not deposits of any bank and are not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. It's a new day when the disclaiming that units are NOT deposits of a bank can be taken as a net positive, no?
Anybody even remotely skilled in 3rd grade arithmetic can discern that the risks of dealing with DB are no where concomitant with the meager returns it is offering, even if at the behest of the ECB.
 
Screenshot 20160922-081728-picsay
Now, the discussion above has actually centered around depositors, for they are the largest and most stable (if not the potentially most fleeting) funding source for the bank. But there are also counterparties and clients of its prime brokerage services, to wit:

The funds, a small subset of the more than 800 clients in the bank’s hedge fund business, have shifted part of their listed derivatives holdings to other firms this week, according to an internal bank document seen by Bloomberg News. Among them are Izzy Englander’s $34 billion Millennium Partners, Chris Rokos’s $4 billion Rokos Capital Management, and the $14 billion Capula Investment Management, said a person with knowledge of the situation who declined to be identified talking about confidential client matters.

“The issue here is now one of confidence,” said Chris Wheeler, a financial analyst with Atlantic Equities LLP in London. “That’s what’s going on here. The thinking is ‘Deutsche Bank is fine, but there’s a slim chance it might not be, so why leave my money in there?’”

Here's my DB warning from 11 and half months ago...
 Our next article will continue to hammer home the likelihood that DB will have to recapitalize, and where they probably WONT'T be getting the money from, as well as the likelihood it will come from someone who really didn't plan on giving it up (Ahem, depositors/savers/checking account holders). For those who are not yet convinced, peruse these related items...

Here's What A Real, Live Veritaseum 5x Short DB Smart Contract Looks Like to Our Research Subscribers 

 If you haven't heard, we're giving out free, fully smart contracts as a 5% rebate to anyone who purchases any of our research packages above the introductory novice $50 level. This is not your Daddy's rebate! The rebate actually gets larger as DB goes down in price. For those who may be coming late to the party, we can offer a 5x long gold (or even a long gold, short DB) smart contract rebate as well. Of course, the bulk of our research targets banks and entities other than DB, but I thought we'd make DB the subject of the rebate to drive the point home. Below is an actual contract crafted off of the price of a single share of DB for about 2 weeks.

 

The research and knowledge subscription module "European Bank Contagion Assessment, Forensic Analysis & Valuation" contains a full report of a very large European Deutsche Bank counterparty that faces a full 27% downside from current levels. It appears as if no one suspects a clue. It also contains much, much more (including at least 3 to 5 suspect banks). We can break this apart a la carte, if requested.

As excerpted:

Susceptible Bank 1: Financial Modeling

 

 

Banks are showing thin NIM, yet many of the big banks are able to boast stable if not slightly improving credit metrics. This doesn’t make sense considering the explosive growth of real estate development and prices amid an environment of much slower income growth. When comparing income growth to real estate price and rent growth, an obvious bubble seems to appear. The answer seems to lie in financial engineering. Once the credit metrics of the bank's loan and loan products deteriorate (that is, when the financial alchemy once again fails to turn MBS lead into AAA gold), they will pull back on financing, putting a hard stop brake on inflationary home purchasing, and there goes the bubble pop!

20160202 171444

There has never been a time in recorded history when US Treasuries have been this inflated in price and this low in yield.

These record low rates have created bursts in financial asset appreciation and incomes.

But… and there always is a “but”, financial asset price increases have dramatically oustripped increases in incomes.

 

This has, and always will mean… Bubble! This bubble is only 9 years after the peak of the previous property bubble - which banks are still trying to recover from. Amazing! As was the previous bubble, there are pockets of growth that outstrip others, and it’s not uniform across the board. For instance, NYC has condo bubble (from new construction being priced above income growth, yet getting purchased anyway) but single family detached housing hasn’t topped previous bubble highs.

We have identified several public companies and several other markets who seem to have an oustized exposure to this new "bubble". We are currently digging deeper. Our findings are available as a one time purchase (The 2017 Real Estate Bubble) or part of an annual subscription (email us at This email address is being protected from spambots. You need JavaScript enabled to view it.). 

Below is an illustrative Veritaseum Smart Contract (the reference client doesn't read Case Shiller tickers) that we are offering as a rebate for the research purchase. You will get 10x the relative price difference of long GLD (gold ETF) vs short S&P Case Shiller 20 City Home Price Index, up to the net capital at risk. This is heady stuff people, and is a perfect way to demonstrate both our superb research and our fantastic, patent-pending smart contract/blockchain technology.

I was discussing the US Department of Justice $14B fine levied at Deutsche Bank with my 15 year old son last week. I told him the fine amounted to roughly 70% of Deutsche's market cap, while a similar retroactive tax levy from the EU towards Apple for $14B was about 3% of their cash on hand or a quarter's operating profit.  My son said, "Whoah! Waitaminute! I thought Deutsche Bank was a big company like Apple. Didn't you say that they had trillions of euros of assets on their balance sheet?".

Indeed, I did say such, and he brings up a very valid point that is missed by many a so-called professional. DB is valued at 14.5 billion euros by Mrs Market, yet that amount controlls 1.8 trillion euros worth of assets, and 1.415 trillion after netting and credit adjustments, etc. And to think, some people think a 90 LTV loan is pushing the leverate limiit. Let's take a look at this from a graphica perspective to illustrate just how absurd it is...

Over time, the accounting expression of equity diverges significantly from the markets perception of the bank's equity value.  Somebody is most assuredly mistaken! As of today, DB's books are carrying equity value at 3x that of the stock market. DB market leverage

 

If one were to use the stock market's equity valuation, one would see that a very, very tiny sliver of equity is controlling nearly 1.5 trillion euro of assets - and that's after the slimming down game is done. Expressed differently, DB is leveaged 97.4x. 

DB market-based leverage Ratio

For those who feel this is an unrealistice way of looking at things, run the same exercise for every failed bank and cross reference the results to that of the European banking regulatory body's methodology of calculating leverage and tell me which methid was (and is) the better predictor of bank failure.

Leverage ratio measures
(In EUR bn., unless stated otherwise) Dec 31, 2014 Mar 31, 2015 Jun 30, 2015 Sep 30, 2015 Dec 31, 2015 Mar 31, 2016 Jun 30, 2016 Sep 28, 2016
                 
Total assets 1,709 1,955 1,694 1,719 1,629 1,741 1,803 1,803
Changes from IFRS to CRR/CRD41 (264) (407) (233) (299) (234) (350)
(389)
(389)
Derivatives netting1 (562) (668) (480) (508) (460) (523) (556) (556)
Derivatives add-on1 221 227 198 177 166 157 157 157
Written credit derivatives1 65 58 45 42 30 31 24 24
Securities Financing Transactions1 16 20 21 22 25 25 35 35
Off-balance sheet exposure after application of credit conversion factors1 127 134 131 109 109 102 102 102
Consolidation, regulatory and other adjustments1 (131) (177) (148) (140) (104) (140) (151) (151)
CRR/CRD4 leverage exposure measure (spot value at reporting date)1 1,445 1,549 1,461 1,420 1,395 1,390 1,415 1,415
                 
Total equity 73.2 77.9 75.7 68.9 67.6 66.6 66.8 66.8
Market share Price$ 30.0 44.8 30.2 27.0 24.2 16.9 13.7 11.9
Market Cap$ 41.1 61.4 41.3 36.9 33.1 23.2 18.8 16.3
Market Cap EUR 36.6 54.7 36.8 32.9 29.4 20.7 16.7 14.5
Discrspency bet. Accounting & Market-based Equity 50% 30% 51% 52% 56% 69% 75% 78%
Simple, market price derived leverage (Equity/Net Assets) 2.53% 3.53% 2.52% 2.31% 2.11% 1.49% 1.18% 1.03%
Regulatory Accounting (Fully loaded CRR/CRD4 Leverage Ratio in %1) 3% 3% 4% 4% 3% 3% 3% 3%
Leverge Multiple 39.5x 28.3x 39.7x 43.2x 47.4x 67.3x 84.5x 97.4x
                 
Fully Loaded CRR/CRD4 Tier 1 capital2 50.7 52.5 51.9 51.5 48.7 47.3
48.0
48.0
 
               
Fully loaded CRR/CRD4 Leverage Ratio in %1 3.5 3.4 3.6 3.6 3.5 3.4 3.4 3.4
1 Based on current CRR/CRD 4 rules (including amendments with regard to leverage ratio of Commission Delegated Regulation (EU) 2015/62 published in the Official Journal of the European Union on January 17, 2015).
2 Regulatory capital amounts, risk weighted assets and capital ratios are based upon CRR/CRD 4 fully-loaded.
 
Here's my DB warning from 11 and half months ago...
 Our next article will continue to hammer home the liklhood that DB will have to recapitalize, and where they probably WONT'T be getting the money from, as well as the likelihood it will come from someone who really didn't plan on giving it up (Ahem, depositors/savers/checking account holders). For those who are not yet convinced, peruse these related items...

Here's What A Real, Live Veritaseum 5x Short DB Smart Contract Looks Like to Our Research Subscribers 

 If you haven't heard, we're giving out free, fully smart contracts as a 5% rebate to anyone who purchases any of our research packages above the introductory novice $50 level. This is not your Daddy's rebate! The rebate actually gets larger as DB goes down in price. For those who may be coming late to the party, we can offer a 5x long gold (or even a long gold, short DB) smart contract rebate as well. Of course, the bulk of our research targets banks and entities other than DB, but I thought we'd make DB the subject of the rebate to drive the point home. Below is an actual contract crafted off of the price of a single share of DB for about 2 weeks.

 

The research and knowledge subscription module "European Bank Contagion Assessment, Forensic Analysis & Valuation" contains a full report of a very large European Deutsche Bank counterparty that faces a full 27% downside from current levels. It appears as if no one suspects a clue. It also contains much, much more (including at least 3 to 5 suspect banks). We can break this apart a la carte, if requested.

As excerpted:

Susceptible Bank 1: Financial Modeling

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