Deutsche Bank Credit Risk Tumbles as Lender Reveals Revamp

(Bloomberg) -- Deutsche Bank AG credit investors showed their approval of the German lender’s plans to overhaul its business on Monday with risk gauges falling to fresh lows and its euro subordinated bonds initially rising.

The cost of credit protection on the bank’s riskiest debt fell 15 basis points to its lowest level since March, according to ICE Data Services. Deutsche Bank’s riskiest bonds, that stand first in line for losses if the lender runs into trouble, rose as much as 0.5 cents on the euro in early trading to the highest level since April. The bonds later pared gains.

“For the moment investors are giving them the benefit of the doubt that it may work and that it is substantial,” said Matthew Rees, a portfolio manager at Legal & General Investment Management. “They’re finally grasping the nettle.”

Deutsche Bank unveiled a radical overhaul on Sunday that will see the lender exit its equities business, post a 2.8 billion-euro ($3.1 billion) second-quarter loss and cut the workforce by a fifth to reverse a slide in profitability. This came after weeks of speculation that the bank had finally come up with a solution after trying for years to turn around its struggling investment bank.

As part of its revamp, the bank is creating what it’s calling a “capital-release unit” to handle the wind-down of non-strategic assets. The holdings and related businesses being moved to the unit represented about 74 billion euros of risk-weighted assets and 288 billion euros of leveraged exposure at the end of last year.

The banks’ credit profile isn’t changing overnight as these bad assets are likely to remain on Deutsche Bank’s balance sheet and rating agencies aren’t expected to upgrade the lender from its low investment-grade ranking. Moody’s Investors Service affirmed its ratings on Deutsche Bank on Monday and kept a negative outlook.

“I would assume that it wouldn’t have an immediate effect on the credit quality of the name per se, as the risk will remain the same in the short term,” said Suvi Platerink Kosonen, a senior credit analyst at ING Bank NV in Amsterdam. “The only thing that changes is that there is then a plan for the future and also perhaps some figures that show how the bank would look like without these assets.”

Deutsche Bank’s CoCo bonds, its riskiest form of debt, initially traded higher after the German lender insisted that it would be in a position to pay coupons on the debt throughout the restructuring. That provided some measure of comfort to credit investors who were fretting last week over the fallout of a lower capital buffer. The notes were little changed at 91 cents at 10 a.m. in London.

The bank said on Sunday that it has agreed a new minimum Common Equity Tier 1 (CET1) target ratio of 12.5% with regulators, down from 13% or higher.

"The lower capital ratio makes sense if the business is de-risked in the way management says," said Roger Francis, an analyst at Mizuho International.

Credit swaps referencing the bank’s second-riskiest class of debt, which is still subject to taking losses, have fallen to the lowest since October, according to ICE Data Services.

New swaps that started trading in May and insure Deutsche Bank’s safest senior bonds, have fallen to a new low at 61 basis points -- 39 basis points below their initial trading level. A decline in the price of these swaps can lower Deutsche Bank’s trading costs as counterparties use them as a reference for hedging.

To contact the reporters on this story: Katie Linsell in London at klinsell@bloomberg.net;Alice Gledhill in London at agledhill@bloomberg.net

To contact the editors responsible for this story: Vivianne Rodrigues at vrodrigues3@bloomberg.net, Hannah Benjamin

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