German Bank Shares of AG fell and the cost of insuring its debt against default rose in sudden moves that some have attributed to hedge funds seeking to profit from the broader turmoil rocking the financial sector.
Shares of the German bank fell 15% before paring losses to end the day down 8.5% in Frankfurt. There was no clear trigger for the declines on Friday.
But hedge funds have turned their attention to Deutsche Bank, an institution that strengthened its balance sheet after some costly missteps years ago. They increased their bets against the bank in equity and credit default trades markets, said investors familiar with the matter, who were not authorized to speak publicly. A Deutsche Bank spokesperson declined to comment.
The sale prompted German Chancellor Olaf Scholz to publicly back the lender, calling it “a very profitable bank”. Speaking Speaking at a press conference in Brussels, he also sought to calm market nerves, saying banking supervision in Europe is “robust and stable”.
“It’s a clear case of the market selling first and asking questions later,” said Paul de la Baume, senior market strategist at FlowBank SA.
Banking stocks were hammered following the collapse of Credit Suisse Group AG and several regional US lenders. The losses continued this week even after Treasury Secretary Janet Yellen said US regulators would be prepared to take further action to protect deposits if needed.
The head of German banking regulator BaFin said on Wednesday that while there was no direct risk to European banking markets from the recent turmoil, there was the danger of “contagion via market psychology”.
Credit default swaps on senior five-year bonds were quoted at around 200 basis points on Friday afternoon, according to ICE Data Services, compared with around 220 basis points earlier in the day.
The volume of Deutsche Bank CDS quotes sent to market participants this week was up 30% from the start of the month, according to ICE CDS Data. This indicates a spike in demand to buy protection, which has been boosted particularly by hedge funds, according to a person familiar with the matter.
“We see this as an irrational market,” Citigroup Inc. analysts, including Andrew Coombs, wrote in a note. “The risk is if there is a psychological impact of various media headlines on depositors, whether the original reasoning behind it is correct or not.”
Short-term interest in Deutsche Bank hit its highest level since May on Tuesday, according to data compiled by IHS Markit. It stood at 2.6% of shares outstanding on Thursday, compared with less than 1% at the start of February.
“Deutsche Bank’s recent CDS expansion is in our view linked to one-way, risk-reducing trades for all market participants,” the analysts wrote. JPMorgan Chase & Co. including Kian Abouhossein. “We don’t see this and the associated decline in share price as a reflection of fundamentals.”
With markets in a heightened state of anxiety, the shows of strength crumbled as investors viewed them instead as signs of weakness. Deutsche Bank’s Friday announcement to buy back a subordinated bond came on the very first day the lender had the right to announce it. But instead of boosting confidence, its credit default swaps surged.
The bank recently emerged from a four-year turnaround plan that included thousands of job cuts and an exit from large parts of the investment bank. CEO Christian Sewing, who took over in 2018, even explored a deal with German rival Commerzbank in 2019 at the government’s request, before deciding against it.
Investors were concerned about its exposure to US commercial real estate and its large portfolio of derivatives, according to Stuart Graham, analyst at Autonomous Research. Still, both are “well known” and “just not terribly scary,” he added in a note.
“We have no concerns about Deutsche’s viability or asset brands,” Graham wrote. “To be clear, Deutsche is NOT the next Credit Suisse.”