Deutsche Bank is starting 2017 in spry old form. The stock's up 71% on September lows, the Damoclean $14bn Department of Justice fine has been cut to a more manageable $7.2bn (a civil monetary penalty of $3.1bn and $4.1bn in consumer relief), and as banker to Donald Trump, Deutsche will be hoping for a warm glow from the new regime.
Even so, J.P. Morgan's banking analysts smell issues. The new healthy Deutsche hasn't entirely done away with the old festering model and there are a few corners to scrub before the roses pervade everything. If you're interviewing at Deutsche (which appears to have lifted its hiring freeze for 2017), this is what a new report from J.P. Morgan suggests you should ask.
Deutsche Bank still doesn't have enough capital. J.P. Morgan's analysts have run the sums and they think that even if Postbank is sold in 2018, Deutsche will still be short of capital come the end of next year. This is partly the result of risk weighted asset (RWA) inflation under proposed Basel IV rules. And it's partly because of stricter capital requirements under the European Union's Supervisory Review and Evaluation Process. In total, J.P. Morgan foresees a capital gap of €4.3bn at Deutsche by 2018.
So... what does the bank plan to do about this? Will there be more cuts to RWAs in global markets (GM)? Or will there be more capital raising? As the chart below shows, global markets got off comparatively lightly in terms of RWA cuts in the first nine months of '16.
Source: J.P. Morgan
J.P. Morgan's analysts don't raise this today, but they did raise it back in September when Deutsche didn't look so shiny and they thought the bank needed to be much more aggressive about cost cutting. As the chart below (from then), suggests, Deutsche has been unduly generous with its compensation. Even as the pre-tax return on average shareholders' equity fell to nothing between 2007 and 2015, Deutsche kept compensation steady. Is this viable in the new world? - No matter how pleasant things are for the present.
And then, what about Strategy 2020, John Cryan's plan for reviving the bank? Investors will be expecting results, soon. Last year, Cryan said full year costs at Deutsche would be only “slightly lower” compared to €26.5bn in 2015, thanks to higher costs from software amortization and investments in technology and regulatory compliance programs. In 2017, investors will be expecting returns to shift upwards - especially if they're being asked to stump up more capital. Some parts of the strategy (eg. growing in M&A) don't seem to be going to plan. Is there a backup?
The good news is that JPM thinks Deutsche's markets business has turned a corner in terms of profitability. As the chart below shows, its banking analysts are forecasting that profits in the division will rise 72% between 2016 and 2018 (even if the final quarter of 2016 is lossmaking.)