The five-million-euro deal could have triggered a Deutsche Bank price drop

Deutsche Bank AG

The stock of the money house fell significantly on Friday.

(Photo: Bloomberg)

Frankfurt Financial regulators are investigating a trade in Deutsche Bank’s credit default swaps (CDS) that they suspect may have sparked a global sell-off in bank stocks on Friday, according to Bloomberg news agency.

It was a transaction worth around five million euros, the news agency reported, citing people familiar with the matter. Regulatory authorities have spoken to market participants about this transaction, it is said.

With credit default insurance, investors can protect themselves against the default of a company. But you can also invest in these derivatives if you want to speculate on a negative development at an institution.

At Deutsche Bank, CDS prices rose sharply late last week, fueling concerns about the health of European banks. After that, the share of the largest German money house had slipped significantly and had lost around 15 percent at the top.

In financial circles it is said that there was a conspicuous deal with CDS from Deutsche Bank on Thursday evening. One market participant paid a higher price for the credit default insurance than was absolutely necessary. This deal signaled a significantly higher risk for Deutsche Bank, which in turn could have pushed down the share price of the largest domestic financial institution.

Big losses for bank stocks

The suspected knock-on effect was that bank stocks tumbled on Friday, government bonds rallied and bank CDS risk premiums soared. The market capitalization of Deutsche Bank fell by around 1.6 billion euros, that of the European banking index by more than 30 billion euros.

It is unclear who is behind the conspicuous transactions. Deutsche Bank declined to comment on the events.

The Handelsblatt reported on Sunday that several high-ranking German bankers suspect an attack by hedge funds and other aggressive investors via the CDS market as one reason for Deutsche Bank’s price losses. According to one banker, the chain of effects would look like this: The speculators stock up on the CDS market with credit default insurance from Deutsche Bank.

At the same time, investors are betting that the bank’s share price will fall. Due to the higher demand for CDS, the price for the derivatives increases and signals a higher risk of default for the bank’s debts, which in turn weighs on the share price. This is the bet of the investors.

However, there are also voices that contradict the thesis that a few transactions have initiated the crash of Deutsche Bank shares. “There was not one crucial transaction,” said a person familiar with the matter. “There were several market participants who hedged themselves with CDS contracts,” it said.

After the events at Credit Suisse, hedge funds and other market participants wanted to hedge against a Deutsche Bank risk. Some market participants also concluded CDS contracts on Deutsche Bank because Deutsche Bank was used as security for the German banking system. “Since the CDS market is not very liquid, this has led to price swings,” it said. There is no evidence of a “targeted, intentional attack” on Deutsche Bank.

Credit default swaps are a concern for regulators

In any case, ECB Chief Supervisor Enria is worried about the significance of the “opaque and illiquid” market for credit default swaps (CDS) for individual banks. Spending a few million euros in the credit derivatives market could affect the stock of a trillion-dollar bank, move its CDS risk premium and potentially trigger deposit outflows, Enria said. “That worries me a lot.”

The supervisor spoke at a meeting of the Handelsblatt without specifically referring to Deutsche Bank. “We should have more transparency in these markets. Perhaps the Financial Stability Board (FSB) should review how these markets really work,” Enria stressed. The FSB monitors threats to the global financial system on behalf of the G20 countries.

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