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from Breakingviews:

Pharma saga shows bad lending’s long half-life

By Quentin Webb

The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

Deutsche Bank’s unhappy Actavis saga shows just how long bad lending decisions can reverberate. Finally a $5.6 billion-plus cash takeover by generic drugmaker Watson Pharmaceuticals offers an exit.

Actavis’s 2007 buyout, by Icelandic tycoon Thor Bjorgolfsson, belongs to a different age. Bjorgolfsson was then reckoned among the world’s richest people and the Actavis deal was worth $6.4 billion including debt - five times the value of Iceland’s biggest listed company today. Deutsche employed bubble-era tactics too. The loans totalled a reported 4 billion euros, including 1 billion of “payment-in-kind” notes. These are particularly risky, since instead of paying interest in cash the PIK-note debt burden expands.

The deal backfired. The credit crunch made the debt unsellable and Actavis wobbled, operationally and financially. Merger and sale attempts flopped. A 2010 restructuring handed Deutsche significant control, including board seats and other rights, but no equity. The bank recorded 545 million euros of “charge-offs”, and shifted the debt into a “non-core” sin bin alongside a Vegas casino. Impairment charges of 457 million euros followed in 2011.

The new owner is not doing too badly, though. Actavis had actually built a major international business through dozens of acquisitions, despite sometimes skimping on integration. Watson’s $5.6 billion offer equates to 2.3 times 2011 sales and 13.8 times EBITDA. That is roughly in line with the mean 3.3 times historic sales and 14.7 times EBITDA for generics deals, Credit Suisse data show. Watson also targets $300 million of annual synergies - about 12 percent of Actavis sales - and should reap big tax savings from combining with a firm that recently moved to Switzerland.

With limited disclosure, it is hard to gauge exactly how Actavis’s owners and creditors have fared. It is not clear what smaller creditors were owed or received. Bjorgolfsson and minority shareholders - probably including kaput Icelandic banks - presumably received something for their consent. They could receive 250 million euros more in Watson shares, depending on future performance.

from Breakingviews:

Investment bankers complete Deutsche Bank takeover

By Peter Thal Larsen

The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

Investment bankers have finally completed their takeover of Deutsche Bank. The German group’s latest reshuffle has vaulted executives from its corporate and investment banking division into senior positions. That’s partly new co-CEO Anshu Jain picking his own team. But it’s also confirmation that, despite post-crisis reforms, trading and risk management nous are still essential.

The takeover at Deutsche has been a long time coming: it started in 2002, when Josef Ackermann was given the top job. His mission was to muscle Deutsche into the global, English-speaking investment banking bulge bracket. He succeeded. The investment bank generated more than half of Deutsche’s income in 2011, despite sluggish markets and the euro zone crisis.

In the process, Deutsche’s relationship to Deutschland became increasingly strained, even though the bank’s senior management was still dominated by German nationals – or at the very least German speakers. The decision to replace the Swiss Ackermann with two CEOs – Juergen Fitschen, a German, and the Indian-born Jain – reflects the tension.

There’s no question which side is now in charge. Only one of the three new arrivals on the management board – chief risk officer William Broeksmit, chief operating officer Henry Ritchotte, and European CEO Stephan Leithner – is a native German-speaker, and all of them previously worked for Jain. Deutsche is also installing Michele Faissola, currently head of rates and commodities in the investment bank, as head of a revamped wealth and asset management unit.

The promotions are partly corporate politics: new CEOs like to surround themselves with loyal lieutenants. But the changes also reflect the skills required to run large financial institutions. Even though Deutsche, like others, has been seeking to expand its retail banking operations, the need to understand and manage complex trading risks has never been greater.

from Global Investing:

Oil prices — Geopolitics or growth?

It's the economy, stupid. Or isn't it?

Brent crude has risen 15 percent since the end of last year, focusing people's minds on the potential this has to choke off the recovery in world growth. But some reckon it is the recovery that's at least partly responsible for the surging oil prices --- economic data from United States and Germany has been strong of late. There are hopes that France and the United Kingdom may escape recession after all. And growth in the developing world has been robust.

Geopolitics of course is playing a role  as an increasing number of countries boycott Iranian oil and fret over a possible military strike by Israel on Iran's nuclear installations.  But Deutsche Bank analysts point out that world equity markets, an efficient real-time gauge of growth sentiment, have risen along with oil prices.

Their graphic (below) shows a remarkably close relationship between oil prices and the S&P 500. Click to enlarge

Deutsche says:

We find it hard to believe that a genuine concern about a real risk of war would have accompanied a 4.7 percent gain in the S&P 500 index during February to a post-Lehman high.

from Global Investing:

Deutsche’s investment themes for 2012

We just finished our three-day Reuters 2012 Global Investment Outlook summit in London, New York and Hong Kong, where prominent money managers have discussed their outlook for next year. (For more click here)

Deutsche Bank Private Wealth Management (whose official was also a guest at the summit) is telling its clients the following 10 investment themes for next year.

1. Safe may not be safe Don’t react to uncertainty by automatically taking refuge in traditional safe havens such as cash, sovereign bonds, real estate or precious metals as they may prove less safe than they appear.

2. Walk before you run Build up holdings gradually, first focusing on “equity lite” type holdings

3. Ready, steady... go? When we get some clarity on euro zone resolution, not only equities and bond markets will start to have a different momentum.

4. Be nimble, but with a safety net Consider resorting to regular, dynamic portfolio rebalancing to adjust to economicand market developments.

5. Reason should dominate emotion Avoid an emotion-driven response that is likely to result in wrong investment decisions, andwrong timing, and make sure that reason always dominates the decision-making process.

from Alison Frankel:

National Credit’s Citi, Deutsche deals are MBS breakthrough

On Monday the National Credit Union Agency announced a pair of breakthrough mortgage-backed securities settlements. Deutsche Bank agreed to pay the government's credit-union regulator $145 million for its role in underwriting mortgage-backed notes purchased by five credit unions that subsequently failed. Citigroup threw another $20.5 million into NCUA's settlement pot, which will offset the $5 to $9 billion in fees the agency is charging solvent credit unions to pay for losses associated with the five failed institutions.

As best I can tell, these are the first settlements of MBS securities claims (as opposed to put-back contract claims) since Wells Fargo's landmark $125 million class action MBS settlement this summer. That means the NCUA deals are just the second and third MBS securities settlements that plaintiffs have scored. They're also, as the Wall Street Journal noted, the first MBS securities recoveries by a government agency. (Again, I'm distinguishing between securities and put-back claims; Fannie Mae and Freddie Mac both reached put-back settlements with Bank of America in January.)

So, given the paucity of MBS securities settlements, what clues do the NCUA settlements offer for the future of the litigation?

Most crucially, the deals indicate that there's value in MBS securities litigation -- which had been an open question to date. National Credit's legal team, led by Kellogg, Huber, Hansen, Todd, Evans & Figel, didn't file complaints against Deutsche or Citi, but NCUA has previously sued Royal Bank of Scotland, JPMorgan Chase, and Goldman Sachs as underwriters on the mortgage-backed notes the five failed credit unions bought. Based on the agency's most recent complaint, a 175-page behemoth against Goldman that was filed in Los Angeles federal court, NCUA's theory of recovery is basically what we've seen in so many MBS filings: underwriters have broad liability under Sections 11 and 12 of the Securities Act of 1933. Investors aren't required to show that underwriters intended to defraud anyone, but only that offering materials contained false statements or omissions. The NCUA's Goldman complaint includes the now-familiar allegations that prospectuses for Goldman-underwritten mortgage-backed notes made false statements about the quality of the loans in the underlying mortgage pools, so Goldman is strictly liable. (The complaint also asserts California and Kansas state-law claims.)

Goldman hasn't yet filed a motion to dismiss the NCUA case, but RBS's lawyers at Kirkland & Ellis moved to toss the agency's parallel case. the RBS motion raises the defenses that just about every MBS securities defendant has trotted out: The failed credit unions were sophisticated investors; the prospectuses were materially sound; and the NCUA's claims are barred by the statute of limitations and the (more obscure) statute of repose. Presumably, those are the potential arguments lawyers for Citi and Deutsche Bank considered when they analyzed the banks' odds of getting an NCUA complaint tossed. They nevertheless decided it made sense for the banks to settle.

That's an encouraging sign, particularly for the Federal Housing Finance Agency and the Federal Depositors Insurance Corporation, both of which have brought Section 11 suits against MBS underwriters. (You surely remember the 17 FHFA cases, which hit the courts like a cluster bomb on the Friday before Labor Day weekend.) Government agencies have more leverage in litigation against regulated defendants -- such as banks -- than private plaintiffs. That leverage changes the risk/benefit calculation for underwriters considering settlements.

But there's an interesting reason why NCUA was better positioned for deals than even the other government agencies with MBS claims. The credit union regulator actually knew how much damage its members have suffered from the mortgage-backed securities investments of its five failed institutions. As the NCUA press releases on the Deutsche and Citi settlements explain, the agency repackaged the securities once owned by those five credit unions, obtained U.S. government backing on the new notes, and sold them into the remains of the market for mortgage-backed securities. NCUA raised about $28 billion in the resale.

from DealZone:

M & A wrap: S&P chief downgraded

The chief of Standard & Poor's will step down next month, to be replaced by a senior Citibank executive, in a move announced a few weeks after the credit rating agency downgraded U.S. government debt and sparked a row with Washington.

Australian brewer Foster's Group put pressure on SABMiller to raise its $10 billion hostile takeover offer on Tuesday, unveiling a $521 million capital return to shareholders.

Deutsche Bank AG knew in 2006 that a mortgage company it was preparing to buy lied to the U.S. government about its mortgages, yet went ahead with the purchase and should be held financially responsible, the Justice Department said on Monday.

Mortgage-backed securities are also at the center of another investigation of a prominent bank, as Goldman Sachs CEO Lloyd Blankfein has hired high-profile Washington defense attorney Reid Weingarten to represent him as the Justice Department looks further into Goldman's role in the financial crisis.

NYT's DealBook contributor Peter Henning called the Goldman investigation an "overreaction," adding that until subpoenas are issued, the news that "Mr. Blankfein has hired his own lawyer does not tell us much, other than that he did what every other corporate executive involved in an investigation would do."

from Christopher Whalen:

The charade of EU bank stress tests

News reports at the end of last week informed the financial markets that the European Banking Authority (“EBA”) failed only eight of the 90 banks examined in the most recent round of stress tests. These eight unfortunates “fell short of the required amount of capital under the tests' simulations of a deep, two-year economic downturn,” the Wall Street Journal reports. “Those banks faced a total shortage of €2.5 billion ($3.54 billion) of capital, which banks rely on to soak up potential losses.”

Most analysts dismissed the EU stress test results out of hand because of the small number of banks identified as problematic. But investors need to understand that the stress test process in the EU, ridiculous as it may be, is only an indication of deeper problems beneath the surface regarding public disclosure and basic question of governance in the EU. Click here to read the latest report on Reuters.

The first point to be made is that the EBA banking authority does not really exist as a bank supervision agency. The EBA has no power to compel financial reporting from banks located in the 25 member nations, rendering the ability to supervise capital adequacy, much less stress testing, completely moot. The Telegraph in London ran a report today detailing the difficulty that the EBA had in obtaining information for the stress tests.

The second more important point, however, is that the culture of secrecy and a complete absence of public disclosure in the EU has doomed the process to failure. Richard Field, an expert on the mortgage sector who has been pushing for improved disclosure by the EBA and other agencies, says that EU officials are “directly contributing to financial market instability by not making the data available so that the risk of the banks they are supervising could be analyzed.”

The third point is that we do not need stress tests to understand that many of the banks of the EU are insolvent. An inspection of the data published by the International Monetary Fund suggests that many of the banking markets in the EU are badly decapitalized. Even Deutsche Bank, arguably the most important bank in Western Europe, has just €50 billion in capital supporting €1.7 trillion in total assets. Only by ignoring the sovereign and off-balance sheet footings of Deutsche and other major EU banks can anyone even for a moment pretend that these banks are solvent.

When you move from the relatively blissful climes of Germany down to Southern Europe, however, the situation becomes even more ridiculous. While many investors are still concerned by the prospect of sovereign default in Greece, Ireland or Italy, Spain arguably is the most problematic nation in the EU -- and the least discussed.

The banks in Spain were run like little imitations of Countrywide Financial, the doomed US mortgage lending that was acquired by Bank of America in 2008, only with worse credit underwriting and record keeping. Indeed, to compare the largest banks in Spain to Countrywide does serious injustice to the American lender. Bad as some of the Countrywide loan production may have been, my view is that the poor credit underwriting and fraud seen in the Spanish real estate boom makes the American experience seem sublime by comparison.

from Unstructured Finance:

Deutsche’s he said/she said derivatives mystery

By Matthew Goldstein

Valuing derivatives--especially complex ones tied to esoteric assets--is always a tough proposition. And maybe that's what a previously unknown whistleblower action involving Deutsche Bank is all about.

The other day I wrote about a big settlement Deutsche reached in that matter with a former trader, who claims some of the bank's most esoteric derivatives were improperly valued to hide trading losses. Deutsche denies the allegation and says an internal investigation found no substance to the trader's charge.

Then again, the bank did find some substance to Matt Simpson's allegation that another former top trader based in London, Alex Bernand, may have done some improper trading in one of his personal accounts. As I reported, the bank in October 2009 quickly dismissed Bernand--its former global head of credit correlation--after a quick internal investigation substantiated much of what Simpson alleged on that point.

In end, this simply may be a case of Simpson being right about some of the facts but not all of them. It's possible Simpson simply wasn't in a position to have all the facts and came to an erroneous conclusion--albeit a conclusion made in good faith.

The SEC, which opened an investigation into Simpson's allegations last summer, hasn't offered much clarity on the matter. As is its policy, the agency doesn't comment on investigations. In fact, it won't even confirm an investigation exists--even when the settlement agreement between Deutsche and Simpson clearly says the agency opened an inquiry into the matter. (And yes, I pointed that out to the SEC).

There is obvious logic for the SEC not commenting on active investigations. The agency needs to be fair to the parties involved and doesn't want to prejudge a matter.

from Breakingviews:

Deutsche to kill two birds with one cash call

By Hugo Dixon and Peter Thal Larsen

Deutsche Bank is killing two birds with one cash call. The official reason for the planned 8-9 billion euro ($10-11 billion) rights issue will be to complete the acquisition of Postbank, the German retail bank. But the fundraising also provides cover for jumping to the front of the queue of German banks that will need to top up their capital as a result of upcoming tighter regulation.

Deutsche was proud of the fact that it was one of few major western banks to avoid a big capital call during the financial crisis. And since then, the bank has argued that it would not raise capital, except to finance acquisitions. But Josef Ackermann, Deutsche's chief executive, still cannot crow. The Postbank acquisition was a bad one, at least financially. Bulking up in German retail banking may make sense strategically as it will help reduce Deutsche's reliance on its investment bank. But Ackermann agreed on a high price for a 62 percent stake in the bank just before Lehman Brothers went bust in September 2008.

What's more, that multi-stage transaction carried extra liabilities. Deutsche was always going to have to make an offer for the rest of Postbank no later than 2012. The good news is that by moving now, it will be allowed under German takeover rules to offer a rather low price. But that still involves doling out cash. Second, Postbank itself is undercapitalised -- just squeaking in above the European Union's stress test levels in July. So Deutsche will need to fill up its new subsidiary's coffers too.

Not that Deutsche itself is awash with capital, either. Its core Tier 1 ratio of capital to assets at the end of June was just 7.5 percent, perilously close to the minimum regulators are likely to agree this weekend, and lower than the likes of Credit Suisse and Goldman Sachs. So raising extra cash is helpful here too.

If Deutsche's spin on its capital-raising will need deconstruction, its tactics can't be faulted. Assuming the new Basel III global bank capital rules are forthcoming this weekend, they are likely to require other German banks to raise cash. Getting out in front of the pack makes good sense.

from Breakingviews:

Deutsche investment bank changes aren’t sinister

Deutsche Bank  is losing half of one of the few successful double acts in investment banking. Michael Cohrs, who has co-run the  German group's investment bank for six years, is to set to retire and hand sole charge of the unit to Anshu Jain. Cohrs' departure and the concentration of power in a markets whizz may unsettle investors. But while the transition has its challenges, this looks like a natural evolution.

Cohrs' exit comes against a backdrop of high-profile exits from Deutsche, with several senior bankers -- including a co-head of the U.S. natural resources team -- leaving this year.  But the timing looks pre-planned. It coincides with the original leaving date scheduled for group chief executive Josef  Ackermann, who deferred his own retirement to 2013.

The advisory business for which Cohrs has had direct  responsibility since 2001 has come far under his tenure, jumping from nowhere to top-five status in U.S. M&A. It's easy to see  why the 53-year-old American may not want to hang around for the  next boom.

Still, Cohrs' business has always been overshadowed by  Jain's markets machine. Judged on his contribution to revenues,  Jain has certainly earned the right to take over. And while the  co-head structure has worked well, it would be risky to wedge in a new leader alongside Jain at this stage.

Jain is a candidate to replace Ackermann. He now has some big challenges to tackle solo. He must protect the position in  the business that Cohrs has built up, and should consider appointing a new advisory champion to secure that legacy.

Above all, Jain needs to defend investment banking within  Deutsche amid pressure to allocate capital to less risky businesses. Moody's, the rating agency, recently criticised Deutsche's dependence on capital markets, questioning its risk management capabilities. It is hard to think of a stronger  advocate for capital markets than Jain. He will have to resolve tensions both internally and with regulators in the coming  years. If he handles that well, his candidacy for the top job at the bank will be strengthened.