Deutsche's Woes When Will the Shine Return?

Deutsche Bank’s shares are at a four-year low, and well below the bank’s asset value. But as Germany’s largest bank enters a critical year, analysts are divided over whether it’s time to step in to the stock.
Washing off the gunk.

For the novice investor, shares in Deutsche Bank seem like a good buying opportunity. At the end of 2015, a share in the powerful bank, Germany's largest financial institution, can be had for only €22.52 ($24.37). It marked the lowest price in more than four years.

Europe’s largest investment bank, based in the financial capital of Europe’s largest economy, is being traded at only 40 percent of its asset value. In other words, the bank's net assets are more than double their market value.

It’s perhaps the clearest sign of just how far Deutsche Bank has fallen from grace in recent years. With the bank set for a major downsizing in the coming years, investors seem to believe the business outlook for Deutsche Bank is extremely bleak and fear losses that will eat into its capital resources.

This stems from two key fears for 2016: Thousands of legal cases and regulatory investigations still pending could lead to billions of euros in fines and settlements; and a deep restructuring of the bank’s operations, reducing the bank’s global footprint, could leave it with no growth opportunities or areas to make a solid profit in the future.

John Cryan, the bank’s new co-chief executive since July of last year, clearly has his work cut out for him.

And yet there is some hope. The 38 analysts surveyed regularly by Bloomberg believe that the share price could increase by an average of nearly 25 percent, to €28.08, within the next 12 months.

Hardly any other share on Germany's benchmark DAX index of its 30 largest companies has as much potential at the moment.

Because the dividend was cancelled, the stock is no longer attractive to the typical private investor. Michael Seufert, Analyst, NordLB

So is the Deutsche Bank share completely undervalued? Experts are sharply divided.

The optimists are driving up the expectations for 2016, but they represent less than a third of all analysts. That is actually lower than a year ago: In January 2015, about half of analysts were still recommending investors buy Deutsche Bank shares – yet the share price took another plunge over the course of the year.

To its credit, the bank has had a turbulent year. The management board, headed at the start of 2015 by then co-chief executive Anshu Jain, drafted a new strategy to overhaul the bank’s operations, dubbed Strategy 2020.

Expectations were rising at the beginning of the year – hopes were high. But the plan revealed in April was disappointing – not to mention another wave of legal troubles facing the bank and a $2.5-billion Libor fine – and Mr. Jain was eventually forced out of his job.

He was replaced in July by John Cryan, a British banker with a reputation for speaking truth to power and ruthless cost-cutting from his time as chief financial officer of UBS, and previously a member of Deutsche Bank's non-executive supervisory board. Markets initially rejoiced over Mr. Cryan's appointment, but the elation was short-lived.


Deutsche BankUpsDowns-01


Shortly after taking office, Mr. Cryan wrote a letter to employees, released publicly, in which he described the bank's troubles in exceptionally stark terms. He said it was too inefficient and too complex, that its IT systems were outdated and that it still faced incalculable legal risks.

Unlike his predecessor, Mr. Cryan did nothing to whitewash the situation, which was shocking to some people. "Cryan brought everyone down to the hard floor of facts. There is no reason for euphoria," said Michael Seufert, an analyst with NordLB.

Mr. Cryan is now charged with implementing the strategy initially devised by Mr. Jain. In October, he laid out the details of how exactly he would shape the plan. While he hasn’t touched the broad outline, his plans likely include a stricter eye on cost-cutting opportunities, including some 15,000 job cuts.

Investors, however, weren’t any happier with Mr. Cryan’s outline than they were with Mr. Jain’s. The bank’s share price continued to fall through the final months of the year.

Perhaps that’s because Mr. Cryan’s new mandate also affects shareholders, who will receive no dividends for two years – the first time in some four decades that shareholders won’t get a piece of the pie. This is bad news, because the bank's stable dividend has helped to offset its stagnating share price in recent years.

"Because the dividend was cancelled, the stock is no longer attractive to the typical private investor," said Mr. Seufert, who recommends investors sell their Deutsche Bank shares.


Deutsche Bank s Ups and Downs-01


In keeping with the dividend suspension, Mr. Cryan has announced a two-year reorganization period. This means that quick successes are not to be expected, although increases in the share price, as occurred recently when Deutsche Bank sold its shares in China's Hua Xia Bank, are possible.

Shares could also rise in the short-term if an initial public offering of its retail subsidiary Postbank – a bank it bought in 2008 but is now abandoning to cut capital costs – is successful in 2016. But Mr. Seufert warned that none of this says anything about the bank’s longer-term prospects.

"Right now, betting on price gains is a strategy investors should leave up to the pros, who get in and out quickly," Mr. Seufert cautioned.

Share performance in the medium term, however, is uncertain. Kian Abouhossein of JP Morgan, one of the more optimistic analysts, is convinced that Mr. Cryan will not only meet but exceed his cost targets.

Because of enormous write-offs last year, stemming partly from a revaluation of assets bought more than a decade ago, the bank is expected to post a loss of €4.5 billion for the 2015 financial year.

Most analysts expect the bank will be in the black once again in 2016. But how well will it actually perform? That depends on whether you think the bank has a viable business model to compete with other global investment banks, many of which began retooling much sooner after the 2008 financial crisis.

Many experts wonder where growth is supposed to come from in the future. Daniele Brupbacher of UBS, for example, believes that the downsizing of business units planned by Mr. Cryan will cause sales to decline, so that the bank will take longer than expected to achieve its targeted return on equity of more than 10 percent. This is why he advises investors to hold off.

"While other major banks hold leading positions in investment banking, investment management and the retail banking business, Deutsche Bank's business model offers a little of everything but not much at the top level," Mr. Seufert of NordLB said critically.

Legal costs are also an ongoing issue. Although the lender currently has €4.8 billion set aside in legal provisions, an ongoing money laundering scandal in Russia is especially worrisome at the moment.

In light of this risk cocktail, James Chappell of Berenberg still believes shares in Deutsche Bank are too expensive. He advises investors not to buy until the share price drops to €16.

Deutsche Bank could be in for a long year.


Laura De La Motte is an editor at Handelsblatt's finance desk in Frankfurt and a specialist banking correspondent. Christopher Cermak of Handelsblatt Global Edition also contributed to this story. To contact the author: [email protected]