“Would a Merger between Deutsche Bank and Commerzbank be a deal worth Consummating?”

In the early 80’s Deutsche Bank was considered, almost unchallenged, to be the best run bank in the world. In the ‘wholesale money markets’ it could pick up money cheaper than any other bank.  It enjoyed a very healthy balance sheet.  Germany was ‘on the charge’ economically.  How jealous were we here in the United Kingdom that Germany contributed virtually nothing towards defence expenditure?  Consequently, Germany’s economy boomed. 

 

The advent of ‘Big Bang’ in 1986 saw most financial institutions in London jockey for position.  Which broker, jobber or merchant bank would end up ‘in the sack’ with which European or US investment bank?  Deutsche Bank shrewdly bought Banker’s Trust Company, which gave this German titan access to all US markets and particularly the global derivative market.  However, Deutsche’s insatiable appetite to expand its business knew no bounds so in 1990 Deutsche acquired the business of Morgan Grenfell.  This bought the ever-expanding UK stock market into the bosom of its family. Grenfell, themselves had acquired jobber Pinchin, Denny and broker Myers & Co, giving them access to the expanding UK gilt and bond market.  The deal between Deutsche Bank and Morgan Grenfell was orchestrated by John Craven, whose operation Phoenix Partners had been acquired by Grenfell in 1987.  John Craven was subsequently appointed CEO of Morgan Grenfell.

 

The appointment of Edson Mitchell as CEO of the investment banking operation in 1990 was seen by the market as a very positive initiative.  Deutsche’s footprint in the investment banking world and particularly in the world of derivatives expanded like mushrooms. In this coveted and closely protected, though not very well regulated, world of finance, London became preeminent. It was just behind New York in terms of importance. Deutsche in this arena was almost omnipotent.

 

There was always a feeling that Deutsche’s dominance in derivatives was dangerously large.  Their dominance in collateralised debt obligations and real estate loans was of gargantuan proportions – eye watering!  Sadly, Edson Mitchell was killed in an air crash in 2000.  This did not abate Deutsche’s market activities.  As the years rolled by towards the financial crash in 2008/9, Deutsche’s involvement in trading was as enthusiastic as ever. In 2007 Deutsche share price was €112.  In January 2009 it stood at €16!  Today €7.68.  Fortunes have been lost. Not only was the CDO and real estate loan portfolio trashed, but also the bank has had to deal since then with rating downgrades, failed stress tests, allegations of money laundering and foreign exchange manipulation.  Unravelling all these imponderables has proved to be a minefield for the copious managing directors of this bank. The controversial Rolf Breuer was CEO from 1997 up to 2002 handing over to Josef Ackermann who was in situ between 2002 and 2012.  This was a tricky period for Deutsche as its share price cascaded downhill.  The appointment of Anshu Jain and subsequently John Cryan (ex UBS) failed to settle the ship.  Christian Sewing was appointed last year, yet the bank has still to see the benefit of his input.

 

There have been rights issues, one of €10 billion in 2010 and the last one was for €8 billion in 2017.  Yet the market still perceives Deutsche to be over exposed in derivatives and conceivably undercapitalised.  No one genuinely believes that Deutsche will go down, because the German government will never allow it to happen, if there ever was a crisis.  The management has never been clear about where it wants to go.  It bought Postbank in 2010 and subsequently planned to sell it but this deal was aborted in 2018. However, a cost of €1.9 billion was incurred to cover IT and other merger expenses.

 

So here we are at the crossroads with long time rumours abounding that Deutsche Bank will be merging its operations with Commerzbank - a smaller operation also with a vulnerable balance sheet.  More details should be known next Thursday. Conversations are at an early stage. Commerzbank’s problems are a mini mirror edition of Deutsche’s. It is quite hard to work out whether this merger makes sense or not. The German government owns 15% of Commerzbank and unsurprisingly will not be unhappy to see a marriage of these two household banks. However, it is far from clear whether the joint operation will be prepared to shed approximately €4-6 billion of costs which of course will include significant redundancies to achieve the necessary economies of scale to make this joint operation successful.  I have my doubt, but more will be known next week.  To date the German government, with Finance Minister Olaf Scholz as spokesman has shown a reluctance to be involved in initial conversations.

 

David Buik

Core Spreads

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