Deutsche Bank: strong start to post-restructuring period (NYSE:DB)

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Investment thesis

German Bank (NYSE: DB) stocks have suffered a real reversal of fortunes this year, with a 30% year-to-date rally in February reversing into a 13% year-to-date decline at around 9, 6 EUR/share. This takes place in a context a tangible portfolio still rising at EUR 25.15/share and a 90 basis point rise in German 10-year yields. The direct exposure to Russia looks very manageable and will likely be reduced over the next few quarters via a combination of write-offs and roll-offs.

Although the whole of the European banking space is trading at very attractive valuations after the latest correction, I think Deutsche Bank stands out largely for the absence of significant restructuring expenditure, a very attractive current valuation at 0.38 tangible book, additional capital relief potential from the Capital Release Unit and a €5 billion stake (based on a 79.5% stake) in asset manager DWS, which represents c. 25% of the market capitalization of Deutsche Bank. Last but not least, in the absence of negative tail risk events, RoTE will likely end up approaching management’s 8% target for 2022, thanks to positive rate developments and a good start to growth. year for market-sensitive businesses.

Company presentation

Deutsche Bank operates in four key segments, namely Investment Banking at approximately 43% of Q1 2022 revenue, Asset Management at 9% of Q1 2022 revenue, Private Banking at 29% of first quarter of 2022 and corporate banking at around 19% of revenues. First-quarter 2022 revenue.

Operational overview

The immediate impact of the Ukrainian conflict on first quarter results was limited and Deutsche Bank managed to record a RoTE of 8.1%, or 11.2% if bank drawdowns were spread evenly over the year. Bank levies rose 28% year-on-year as European banks have so far failed in their lobbying efforts to limit contributions to the Single Resolution Board (SRB).

Revenue was €7.3 billion and management reaffirmed its 2022 guidance for a range of €26-27 billion, around 4% higher than the €25.4 billion euros reached in 2021.

The exposure to Russia is gradually decreasing, with €0.5 billion of net loan exposure and €1 billion of contingent liabilities. Combined, it represents 2.8% of tangible equity of 53 billion euros.

Overall, despite increasing challenges on several fronts (cost pressures, slowing growth, geopolitical risks, etc.), supported by a favorable rate environment (German 10-year rates are up around 90 bps base since the beginning of the year), management reaffirmed its 2022 objective and ambitions:

Deutsche Bank 2022 targets

Presentation of DB 2022 Q1 results

Capital situation

The CET 1 ratio stood at 12.8%, which is significantly lower than the 13.7% recorded in the first quarter of 2021. Considering the maximum distributable amount (MDA) requirement of 10.43% , the current cushion is rather low compared to recent years. In this regard, the information contained in the annual report is relevant:

In January 2022, BaFin announced a countercyclical buffer of 0.75% for Germany effective February 1, 2023, which translates into a CET1 capital requirement of around 30 basis points for Deutsche Bank Group taking into account of our current share of German credit exposures. In addition, BaFin is considering a sector-based systemic risk buffer of 2% for exposures to German residential real estate from February 1, 2023. If implemented as planned, this sector-based cushion could increase the requirement for CET1 capital for Deutsche Bank Group by around 20 basis points, given our current exposure to German residential real estate.

Source: BD Annual Report 2021

Overall, it is safe to say that the CET 1 ratio requirement for 2023 will be around 11%. Management appears confident in its ability to bring the CET 1 ratio down to around 13% given retained earnings over the rest of the year and limited restructuring charges. This is underlined by the provision for 2022 capital distributions:

CET1 capital now includes a capital deduction for ordinary share dividends of €354 million for 2022, in addition to the approximately €400 million that had already been set aside last year to pay the proposed 2021 dividend 20 cents per share after the May AGM.

Source: DB Q1 2022 Analyst Call Transcript

Comparing the €354 million provision to the €1.06 billion Q1 2022 profit attributable to shareholders, the payout ratio for 2022 is expected to be around 33%. That said, management seems cautious about additional redemptions in the second half of 2022 and we will likely have to wait until next year for the actual implementation of shareholder distributions.

Some relief on the capital front may still come from the Capital Release Unit (CRU), as it continues to hold a disproportionate amount of operational risk-weighted assets (RWA), namely 31.6% of all Operational RWAs, while holding only 6.8% of all Deutsche Bank RWAs:

Total DB RWA Of which in the CRU
RWA operational risk 60 19
RWA market risk 22 1
Credit valuation adjustments 6 1
RWA credit risk 276 4
Total 364 25

Source: DB Q1 2022 results presentation and results report.

If the CRU ended up holding only 6.8% of operational RWA, this would free up some €15 billion of RWA, or €1.9 billion of capital at the current CET 1 ratio of 12.8%.

DWS

DWS posted a 12% year-over-year increase in adjusted net income before tax. However, the red flag for the quarter was a €1 billion net outflow of assets under management driven by treasury products:

Deutsche Bank Q1 2022 Earnings Overview

DWS Q1 2022 Analyst Presentation

By way of comparison, Amundi (OTCPK:AMDUF) which manages 2.02T EUR continued to record inflows during the quarter.

With a market capitalization of 6.3 billion euros, the market continues to partially discount the approximately 3.65 billion euros of goodwill that DWS carries on its books, with shareholders’ equity amounting to 7 billion euros. in the first quarter of 2022. Nevertheless, Deutsche Bank’s 79.5% stake is worth around 5 billion euros. and a potential sale would increase the tangible book value by more than €1.4 billion.

Key takeaway for investors

While the €300 million buyout has already been executed at an average price of €11.3079 per share and there is unlikely to be near-term support for the stock price, once there is more clarity on the geopolitical front, i think the stock offers strong revaluation potential as a good portion of the distributions will likely be executed via highly accretive to tangible book buybacks, given the ranges recent negotiations.

Since the recent stock price correction coincided with general market weakness relative to the overall strong numbers reported by the bank, I personally will consider going long after my covered call expires. in June. That said, owning a mix of multiple banks appears to be the best course of action in order to minimize the impacts of idiosyncratic events such as the recent prosecutorial search of Deutsche Bank headquarters.

Thanks for the reading.

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