Deutsche Bank RMBS Deal Could Test Legal Reserves, JPMorgan Says

(Bloomberg) -- Deutsche Bank AG may have to make additional legal provisions if a settlement with U.S. authorities over the sale of residential mortgage-backed securities exceeds $4 billion, according to analysts at JPMorgan Chase & Co.

While a settlement around $2.4 billion “would be taken very positively,” a range of $3 billion to $3.5 billion still leaves the German lender room to settle other legal issues, JPMorgan analysts led by Kian Abouhossein wrote in a note on Thursday. An agreement of more than $4 billion “would put questions around capital positions with the need to potentially build additional litigation reserves” such as for money-laundering probes tied to Russia, he wrote.

Deutsche Bank Chief Executive Officer John Cryan has struggled to reverse a slump in shares this year, as unresolved legal probes and claims compounded concerns that the lender will be forced to raise capital. Reaching a U.S. settlement over residential mortgaged-backed securities would clear a major hurdle for Germany’s largest bank, which has already paid more than $9 billion in fines and settlements since the start of 2008.

‘Poor Risk-Reward’

The company had 5.5 billion euros ($6.2 billion) of provisions for outstanding penalties at the end of June, according to filings. Abouhossein, who has a neutral recommendation on Deutsche Bank, estimated that the firm will set aside another $3.2 billion by the end of 2017.

Germany’s Manager Magazin reported last week that Deutsche Bank is nearing a settlement with U.S. authorities over residential mortgage-backed securities, without saying where it obtained the information.

Other unresolved cases include the alleged manipulation of foreign exchange rates and controversial equities trades in Russia. JPMorgan estimates that probes tied to Russia could spark a fine of $1 billion to $4 billion, according to the note.

Credit Suisse Group AG and Royal Bank of Scotland Group Plc are also among European banks under investigation over the sale of residential mortgage-backed securities.

“We would be cautious of buying into European investment banks as probability of estimating the final settlement cost is 50/50 and hence risk-reward looks poor,” Abouhossein wrote. “The long-term theme of low return on equity in Eurobank investment banks continues.”

To contact the reporter on this story: Jan-Henrik Förster in Zurich at jforster20@bloomberg.net. To contact the editors responsible for this story: Simone Meier at smeier@bloomberg.net, Michael J. Moore