DB: end of the beginning or beginning of the end?

So, Deutsche Bank.

Macro Man wrote on Tuesday that he had "yet to hear any of the 2008-style 'x is no longer trading with y' rumours vis-a-vis DB", and while that's still the case yesterday brought the next-worst thing.  The Bloomberg story that around 10 prominent hedge funds had reduced collateral exposure to DB and swept away excess cash suggests that some counterparties are concerned enough to act; one would presume that they are also probably not looking to add fresh trading exposures to DB.

Confidence is one of a bank's most important assets, and once it begins to erode then things can go downhill swiftly.  Deutsche ADRs took a bath in New York after the headlines hit the tape, and while John Cryan may well step up the PR offensive today it seems like only a matter of time before the share price enters the event horizon of the single digit black hole.

Let's be clear, however.  This is not a Lehman moment and will not become a Lehman moment.   For one thing, there is a veritable ocean of liquidity available today through various programs (LTROs, etc.) that were not in place during 2008.  It is therefore difficult to see DB running out of money as swiftly as Lehman did.  More importantly, there has been a change in the structure of the market that makes it more difficult for a systemically-important bank to be as systemically important as Lehman was.

The reason for this is the decline in the velocity of collateral.  When two parties enter into a derivatives transaction collateral is posted, with the size of the collateral changing as the market value of the derivatives contract changes.   Prior to the financial crisis, if a hedge fund (Hedge Fund 1) owned a Treasury bond, it might post that bond as collateral to Bank A when they enter into a swap trade.  Bank A might then take that same bond and post it as collateral to Hedge Fund 2 for another trade.   This is known as "re-hypothecation."  Hedge Fund 2 could post the bond to Bank B, who in turn might post it to Bank C.  After this series of transactions, the bond is still owned by Hedge Fund 1 but in the hands of Bank C.

Now imagine that Bank B was Lehman Brothers.  In this stylized example, If HF1 wants their collateral back, they close their trade with Bank A.   Bank A goes after HF2 for the collateral, who in turn goes to Bank B....but whoops.   Bank B was Lehman, and there are no bonds to be had from them.  So HFs 1 and 2 and Bank A all have a hole now where a Treasury bond should be.  Now multiply this simple scenario by the virtually countless numbers of transactions that Lehman had on its books, and you can see why 2008 was such a disaster.

These days, however, the practice of re-hypothecation is not nearly as prevalent as it used to be, and as we have already seen some sophisticated investors are taking every precaution to safeguard their collateral.  As a result, any failure of Deutsche Bank would not result in the complete freezing up of the financial system that we observed eight years ago.

However, there is a pretty wide gulf between "not Lehman redux" and "pony rides and lemonade for everyone."  Just because DB isn't Lehman doesn't mean that a failure wouldn't hurt, particularly given that other banks are looking ropy on their own accord.   (As an aside, isn't creating phony accounts and charging customers for them a more egregious offense than trying to make money trading on a principal basis with client accounts that actually exist?)

Since February dips have been so shallow that it feels like some punters and observers have been sucked into a false dichotomy of "crash" or "all time highs."   In reality, prices are a continuum, and it would be eminently reasonable for equities to slide further than they've recently done if a major global bank goes to the wall.

Meanwhile, to add spice to short term money markets, Treasury GC repo rates have climbed sharply for quarter end, registering their highest levels since October 2008.   Whether this simply represents a surfeit of Treasuries on the street or is symptomatic of a general squeeze in short term interest rates given the money fund reform is perhaps open for debate; either way it won't do much to help sentiment, particularly if and when DB slides to single digits.

In the end, it is starting to look likely that DB will require (and probably receive) some sort of rescue operation from the authorities.  Whether yesterday's headlines were the beginning of the end or the end of the beginning remains to be seen, but it's worth bearing in mind that the descent into the vortex is rarely slow and measured.
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AL
admin
September 30, 2016 at 7:19 AM ×

Very well explained MM, thanks.
If "rules of engagement" have changed quite substantially since the GFC, they also have on the side of government intervention for troubled banks, especially in Eurozone. Now bail-in rules in "theory" applies to DBK as well, which means that before seeing Merkel getting involved, things have to turn A LOT uglier than one would expect.

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Anonymous
admin
September 30, 2016 at 8:13 AM ×

A certain potty-mouthed greek gent formerly of these parts must be itching to let loose on this thread.

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Anonymous
admin
September 30, 2016 at 8:56 AM ×

You mean Varoufakis?

"...the money [the Germans] had given to the Greeks was not money for the Greeks but for Deutsche Bank, and therefore that they were never really expecting to get it back, so this is why we are going to give the Greeks a restructure."

"... [the Germans] having given money to the Greeks so that effectively the German taxpayer and the Slavic taxpayer, because they spread the risk like good financiers do to the other Europeans, ... were bailing out their banks."

https://yanisvaroufakis.eu/2016/06/28/full-transcript-of-the-yanis-varoufakis-noam-chomsky-nypl-discussion/

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Adrem
admin
September 30, 2016 at 10:36 AM ×

This Is How Much Liquidity Deutsche Bank Has At This Moment, And What Happens Next

Excellent assessment of DBs liquidity stakes on Zerohedge to go with your contribution.

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Anonymous
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September 30, 2016 at 11:49 AM ×

Rumors that ECB and even the Fed may expand asset purchases to buy equities. Standby for the ECB buying of DB stock int he near future.

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washedup
admin
September 30, 2016 at 12:38 PM ×

@MacroMan thx very well explained. I am quite certain that if the DB issue escalates further, it will play out a bit differently than the 07-08 events anyway - I think the fault line here is less about liquidity and contagion risk to other banks vs how is the political environment in terms of saving more fat cat bankers. The assault on CBs globally is relentless, and it will grow as they get more involved in DB.
It's a subtle difference, but we may get to a point where intense chemotherapy weakens the patient so much that a common cold kills it.

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Anonymous
admin
September 30, 2016 at 12:51 PM ×

"Rumors that ECB and even the Fed may expand asset purchases to buy equities. Standby for the ECB buying of DB stock int he near future."

Does this mean the banking sector is dead? Small banks go to the wall as peeps invest instead of save or deposit.
15-20 super banks swallow everything?

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Anonymous
admin
September 30, 2016 at 1:00 PM ×

Re: Anon @ 11:49

The ECB buying equities is a lot easier and closer than the Fed doing so.

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Anonymous
admin
September 30, 2016 at 1:03 PM ×

Page 15, end of last year -5% to end of Q2 this year +11%? Moving exposure so it looks less bad?

https://www.db.com/ir/en/download/FDS_4Q2015_11_03_2016.pdf
https://www.db.com/ir/en/download/FDS_2Q2016.pdf

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Fcp
admin
September 30, 2016 at 1:09 PM ×

How does a destabilising 14 billion dollar corporate fine help anyone at all?

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Anonymous
admin
September 30, 2016 at 2:11 PM ×

http://www.bloomberg.com/news/articles/2016-09-30/summers-floats-idea-of-sustained-government-stock-purchases

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Anonymous
admin
September 30, 2016 at 2:15 PM ×

Media issuing programs about DB not being a problem, equity futures being bid, looks like the powers that be are stepping in...

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Anonymous
admin
September 30, 2016 at 2:33 PM ×

There we go...

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Anonymous
admin
September 30, 2016 at 3:14 PM ×

via FT: No adults left..Deutsche Bank's chief executive just blamed evil "forces" in the market for his company's swoon

European Banks are asking the #ECB for a lot more Dollar funding. http://bloom.bg/2dbIjuY

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CV
admin
September 30, 2016 at 4:35 PM ×

Thanks for playing the DB bingo everyone; the bank wishes you a good weekend looks forward to seeing you again Monday morning.

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yassa
admin
September 30, 2016 at 4:36 PM ×

short squeeze?

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Leftback
admin
September 30, 2016 at 4:41 PM ×

So, which of these things do not go together? Fridays, unsubstantiated rumors and weekly options expiration?
Answer: they all go together, like West Ham, The Olympic Stadium, and conceding goals.... ;-)

If you are a cynical options trader you can say, well, after the open, the $12 puts were cashed in, igniting a short squeeze that probably ended when the $13 calls were cashed in...

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CV
admin
September 30, 2016 at 4:41 PM ×

Probably Yassa, but hot takes already flowing on that this solves nothing and that you should sell the rip. Adult swim only if you really, really want to play in this pond.

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12yo HFM
admin
September 30, 2016 at 4:44 PM ×

To those seeking clarity: about 300 points lower on the Dow we cautioned you to buy the DB dip:
Anonymous 12yo HFM said... Fam, JBTDBD (Just Buy The DB Dip). $STUDY

To our pet hater of yesterday: you're very welcome to invest with us if you wish to recoup your losses (lolz)

Easiest job in the world. Peace.

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Anonymous
admin
September 30, 2016 at 4:54 PM ×

DB up +13% on the day hahaha

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Leftback
admin
September 30, 2016 at 5:53 PM ×

You can make a perfectly good argument that someone big bought a load of DB $13 calls and then started a rumor that the DoJ was going to fine DB $3.50, but that doesn't necessarily make it true, especially after they sold all the $13 calls….

Hey, nice work, though! I give a lot of credit to the punters who spotted that opportunity (lemme see, Fridays, op ex, large short positions, EUREKA!). Now I am sure that isn't legal if it's a little guy in his basement who starts a story and makes a few thousand, but if a US bank options desk does it and then leaks the rumor via BBG, well its all good with SEC, I expect. Btw, this rumour-squeeze manufactured "exit rally" stuff went on almost every week in the Fall of 2008. No horse in the race here, btw, just making an observation about crooked bookies and race tracks. [Where is amps when you need him?].

We are back to shorting CADUSD, USO (which pierced the upper Bolly band this week), started a bit of short EURUSD, IWM and a bit more long UUP. Protection (vol) is very very cheap, because of course there is nothing to be protected from, right? Only bankers claiming to have adequate capital and the calming voice of Dame Janet telling us that all is well….

Q4 fund flows ahead…. Monday will be an interesting opening.

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yassa
admin
October 1, 2016 at 1:04 AM ×

CV - came to the same conclusion and got out a few minutes before close. Don't want to get caught in any bank holiday shenanigans!

Nothing (for my risk tolerance) looks particularly compelling at the moment...

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Anonymous
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October 1, 2016 at 8:02 AM ×

http://www.zerohedge.com/news/2016-09-30/citi-trader-i-almost-feel-stupid-being-bearish

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Anonymous
admin
October 1, 2016 at 4:43 PM ×

Regardless whether DB gets the 5.4$ bn deal now being reported and some relief and stabilization which follows, isn't it ironic that a few billion dollars representing one half of one percent (say 10bn of the 2 t assets) of the asset base is enough to put DB and global markets in a tailspin? How many hundreds of billions were lost late in the week in asset values from this? Is there any doubt how leveraged still and vulnerable the global financial system is? Its all pretty preposterous to me...

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Anonymous
admin
October 2, 2016 at 10:32 PM ×

German markets are closed on Monday.

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wcw
admin
October 3, 2016 at 12:48 AM ×

Froher Wiedervereinigungstag!

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Anonymous
admin
October 3, 2016 at 4:38 AM ×

Froher Deutschebanktag! Der market ist nicht open today! :)

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