Fragile confidence of global economy - AmpGFX

Greg Gibbs, Director at Amplifying Global FX Capital, notes that the global equity market was roiled on Thursday by a Bloomberg news story that some of Deutsche Bank’s customers had withdrawn collateral held at the bank to facilitate their trading business with the bank. 

Key Quotes

“This action suggests that some customers of Deutsche Bank are reducing direct exposure in case the bank were to experience bankruptcy.

Bankruptcy is extremely unlikely, as almost certainly, Deutsche bank, as a Globally Systemically Important Bank (G-SIB), would receive all the liquidity it needs to ensure it can settle all trades, and indeed receive government backing, if required, to stay in operation.

Nevertheless, customers would not want any hint of disruption in their capacity to make and settle trades.  As such, they might feel it prudent to shift collateral to alternative banks to broaden their capacity to keep trading in case Deutsche bank faces even a short-term disruption.

At issue is customer and counterparty confidence in Deutsche Bank.  If confidence ebbs it can snowball and threaten to generate a widespread call on Deutsche Bank’s sources of funding.  The Bank would then be forced to curtail its trading activities and ask for ECB and/or government support, creating considerable damage to its reputation.

Notwithstanding the political distaste for bailouts, Deutsche Bank would almost certainly receive one and avoid major systemic risk.  But such an event would probably generate significant downward pressure on bank shares, it would exacerbate concerns that the ECB’s easy monetary policy is not working, further increase regulatory pressure on the banking system globally, and there would be a broader fallout to asset prices and global economic confidence.

This fear accounts for the contagion from a Bloomberg news story to global risk appetite.  However, confidence in Deutsche Bank’s capacity to remain in business and service its customers could be quickly restored.  As mentioned, at the end of the day, it is almost certainly likely to receive all the ECB and/or government support it requires. Investors might then  treat it as a troubling case that may or may not need government support to restore its financial stability over the medium term, and revert to seeking out other higher yielding assets.

As such, we could again revert to overall strength in other equities and high beta assets, including higher yielding emerging markets and commodity producer assets and currencies.  As discussed, low global bond yields, while undermining banks shares, tend to support the broader asset market.  It is far from clear that the Deutsche Bank’s problems will have a sustained negative impact on global markets.

The problems at Deutsche bank have been around, albeit increasing, for over a year, intermittently dampening broader investor confidence, but on the whole, it has not had a sustained negative impact.”