February 3, 2017 / 4:07 PM / 6 months ago

Revenue Weakness Weighs on Deutsche Bank's Results

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(The following statement was released by the rating agency) LONDON, February 03 (Fitch) Fitch Ratings says Deutsche Bank's hefty loss in 4Q16 reflects difficulty in upholding revenues when faced with negative market sentiment and dampened staff morale. Litigation provisions hit the quarter's net result, but putting the worst of settlement and restructuring costs behind should clear the way for more normalised earnings in 2017. Returning to adequate profitability in 2017 will be crucial for Deutsche Bank to prove its internal capital generation capacity and franchise strength. The bank's ratings are on Rating Watch Negative (RWN), signalling that they will be downgraded if it fails to achieve sufficient improvement in underlying earnings to demonstrate a competitive position and ability to build capital to required levels. Early signs of an improved operating environment for securities businesses in the US and, to a lesser extent, Europe should help it achieve this, if conditions persist. We expect to resolve the RWN at latest after the 1Q17 results. Management commented that the bank performed well in January. Deutsche Bank reported a EUR2.4 billion pre-tax loss for 4Q16 and a EUR1.4 billion post-tax loss for the year. Negative sentiment due to its pending RMBS settlement with the US Department of Justice (DoJ) hindered business potential at a time when its peers, particularly in the US, benefited from the uptick in capital markets activity in the quarter around the US election. This drag on revenue came at the end of a year of substantial restructuring, with accompanying costs adding to those from litigation and regulatory settlements. Excluding regulatory and litigation settlements, goodwill impairment and the gain on sale of Hua Xia Bank, the bank made a pre-tax loss of EUR1 billion in 4Q16. In addition to sentiment around the well-publicised discussions with the DoJ, yoy revenue was down as a result of the bank's strategically reduced business scope. Staff costs have declined, particularly though the variable compensation component, but we expect the bulk of savings to feed through in 2017 and beyond. We expect further, albeit smaller, regulatory and legal expenses as Deutsche Bank works through its remaining outstanding cases, including the DoJ's investigation into Russia/UK mirror trades and civil claims related to regulatory settlements. The bank added EUR1.6 billion litigation reserves, net of small releases, to its existing stock in 4Q16, which will reduce in 1Q17 because of cash settlements with the regulators. As part of the DoJ settlement Deutsche Bank also committed to providing USD4.1 billion in consumer relief. Optionality around consumer relief measures suggests that the associated cost will be a fraction of this, and will trickle through net income as measures are undertaken, until 2022. Deutsche Bank's fully loaded regulatory CET1 ratio reached 11.9% at year-end, up 80bp qoq, as risk-weighted asset (RWA) reductions in the non-core unit (NCOU) and other deconsolidated businesses, subdued trading of RWAs and the gain on sale of Hua Xia Bank more than offset the impact of the net loss. The CET1 ratio will likely decline in 1Q17, as operational risk RWA models pick up the impact of the added regulatory and litigation charges, and if the increased trading activity seen in January persists throughout the quarter. The new CET1 capital requirement of 9.51% for 2017, resulting from the Supervisory Review and Evaluation Process, allows for an adequate buffer of 325bp as at 1 January 2017 over the maximum distributable amount trigger. In fully-loaded terms, the buffer of less than 18bp, given current requirements, highlights the bank's need to continue to build capital. The bank's fully loaded leverage ratio of 3.5% was stable in the quarter and remains below international peers'. The bank's capital markets sales and trading unit, Global Markets, experienced poor performance in 4Q16 (EUR488 million loss excluding valuation adjustment items). The benefits of improved trading environment in the US (around the election) and Asia barely offset business lost on the back of negative market perception of the bank. Fixed income, currency and commodity revenues increased 11% yoy in what is usually a seasonally weak quarter, but full-year revenues were negatively impacted by business exits and the under-performance of Deutsche Bank's geographical and product mix against US peers'. Clients' concerns weighed on equities trading, which saw higher funding costs and lower client activity (prime finance, cash equities). The division is experiencing a strong start to 2017, however, particularly in rates and credit, according to management. The Corporate and Investment Bank's modest pre-tax gain of EUR304 million benefitted from a pick-up in underwriting and advisory revenues compared with a weak 4Q15, offset by pressure from interest rates, trading volumes and business reductions in transaction banking. The first weeks of 2017 showed strong developments in the high yield, leveraged loans and IPO markets, according to management. Loan impairment charges increased qoq, driven by dynamics in the shipping sector in particular. Private Wealth and Commercial Client's (PWCC) revenues declined 7% on 4Q15, excluding the impact of the sale of businesses during 2016, reflecting reduced client activity, the impact of low interest rates and AuM outflows. Asset management quarterly underlying revenues also declined modestly yoy, and the division's results were starkly skewed by goodwill impairments of EUR1 billion predominantly from Abbey Life, whose sale was completed in the quarter. The first weeks of 2017 have seen promising developments in investment and insurance products in Germany, wealth management in APAC, and net inflows in the US and EMEA, according to the bank. Postbank's EUR2 million loss was impacted by high costs, including for litigation, restructuring and severance, while underlying revenues were flat yoy. Management continues to prepare the division for a potential sale. Deutsche Bank has reached its target of reducing its NCOU, to below EUR10 billion RWAs and is now reintegrating the remaining assets into the core divisions, mainly Global Markets and PWCC. NCOU made a modest EUR154 million loss in 4Q16, excluding litigation charges. Wholesale funding costs have risen sharply during the year and remain high. Liquidity remains ample as the bank holds EUR218 billion liquidity reserves and had a 128%liquidity coverage ratio at end-2016. Contact: Bridget Gandy Managing Director +44 20 3530 1095 Fitch Ratings Limited 30 North Colonnade London E14 5GN Ioana Sima Analyst +44 20 3530 1736 Media Relations: Elaine Bailey, London, Tel: +44 203 530 1153, Email: elaine.bailey@fitchratings.com. Additional information is available on www.fitchratings.com. ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: here. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEB SITE AT WWW.FITCHRATINGS.COM. PUBLISHED RATINGS, CRITERIA, AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. 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