Goldman Sachs on Deutsche Bank: It's not as bad as you think

Goldman Sachs and Credit Suisse both told investors on Friday that the Deutsche Bank situation is not as bad as its share price would have you believe.

Deutsche Bank shares crashed by 7% in the US and Germany early Friday after reports that hedge fund clients were restricting business with the bank to limit exposure.

Shares plummeted close to 30-year lows earlier this week after reports surfaced that the US Department of Justice was looking to impose a $14 billion fine for mortgage-backed security misselling in the run-up to the financial crisis. The fine is bigger than the bank’s market value, leading to fears the bank would be sunk.

There have also been reports in Germany that Berlin is preparing a bailout for the lender as a final backstop, though the German government has repeatedly denied this. This from the bank that the IMF said is the biggest risk to the global financial system in June.

Goldman Sachs says in a note to clients sent Friday: “”Crisis” questions are being asked: “is there risk of a financial crisis re-run” and “can a large European bank face a liquidity event”?”

The short answer? This isn’t another crisis and liquidity is fine.

Credit Suisse said in a note sent to clients on Friday that “the price action overstates the short-term litigation risk,” saying: “As in similar cases such as Goldman Sachs and Citigroup, we expect the ultimate settlement to be much smaller and in proportion with peers.”

This has been Deutsche Bank’s line all along, saying the $14 billion figure is just a starting point and it has no intention to settle anywhere near that level. Credit Suisse’s Jon Peace reckons the final fine will be around €4 billion and says it could absorb €9 billion before capital requirement rules are breached.

Here’s how Credit Suisse sees Deutsche’s overall fines playing out (there are several outstanding issues):

Meanwhile, Goldman Sachs says in its own note sent to clients on Friday that Deutsche’s “liquidity position is stable — and further strengthened by ECB funding backstops, which remain available to all Eurozone banks.”

Deutsche Bank CEO John Cryan said much the same thing in a memo sent to staff on Friday, emphasising that it has an “extremely comfortable buffer” when it comes to liquidity.

Deutsche Bank has liquidity reserves of €233 billion, according to Goldman, or around 20% of its balance sheet. It also has a liquidity coverage ratio of 124%, better than the likes of BNP Paribas and Citi.

The reassuring words from Goldman and Credit Suisse, as well as Cryan’s memo, have helped prop up the share price. After tanking over 8% at the open in Frankfurt, Deutsche Bank shares are off just 2.3%.

But Goldman adds in its note that: “the reaction of (admittedly less liquid) ADR to a single piece of news flow demonstrates the extent of concern in the market. As we highlighted previously, as market concerns intensify, achieving resolution to litigation, and thus capital concerns, is important.”

Credit Suisse also says: “The fundamental issue of low profitability and capital deficit remains.”

So in summary: the current fuss over the Department of Justice fine is overdone but the bank still has some serious problems with its overall business model.

NOW WATCH: Wells Fargo CEO John Stumpf could walk away with $200 million

Business Insider Emails & Alerts

Site highlights each day to your inbox.

Follow Business Insider Australia on Facebook, Twitter, LinkedIn, and Instagram.