8 ms·

How Deutsche Bank Made a $462M Loss Disappear

238 points by mrkibo 10y ago

chollida1 10y ago
I wrote my feelings about how Deutsche got into this mess here. I think its still a valid take on how things unraveled. https://news.ycombinator.com/item?id=13047056 https://news.ycombinator.com/item?id=13047056 > Essentially, the trade had little economic purpose—only an accounting one. Yep, that's one of the first things you learn about when you take any kind of trading course. At a lower level in the cash equity markets you have something similar with wash trades. The rule of thumb has always been, did you swap any risk, if not then consider you may have done something dubious, not always, but its a very good first pass. > This month the bank agreed to pay $7.2 billion to resolve a U.S. probe into its subprime mortgage business, admitting it misled investors. Deutsche has paid more than $9 billion in further fines and settlements related to claims of tax evasion; violating sanctions against Iran, Libya, Syria, Myanmar, and Sudan; rigging the $300 trillion Libor market; and other alleged breaches of the law. I think this is going to be the new normal for banks from now on until they get completely out of trading an market making, which is probably going to be never. It's very hard to police a world wide distributed teams, who have many conflicting views, all of who get paid based on what they produce and don't have much long term incentive to see things any other way. I mean, in this case even the risk team singed off on it. What more could a CEO do. At some level you have to trust your people to make money and do it without breaking the laws of every country you do business in, even if those laws can conflict. Having said that, Deutsche bank is one bank that keeps coming up when fines and abuse in the baking system are in the news. They allegedly wrote famed hedge fund Renaissance Technologies their infamous basket option put that let RenTech claim that its short term trades were actually long term captial gains instead by virtue of them owning the put written by the bank that just happend to include every single short term trade Rentech did over the year. Deutsche got paid handsomly for writing the put and RenTech got the cliam long term capital gains vs short term capital gains. https://www.bloomberg.com/news/articles/2014-07-21/renaissance-avoided-more-than-6-billion-tax-report-says https://www.bloomberg.com/news/articles/2014-07-21/renaissan... Side Bar: I've said this before, but when the tell all book about RenTech is written, their genius will be confirmed but I think you'll find they did alot more shady things like the above to juice their returns.
- rhizome 10y ago
  At some level you have to trust your people to make money and do it without breaking the laws of every country you do business in, even if those laws can conflict. I have the sense that in many of these cases, the laws actually don't conflict. That is, they did things that are illegal in every country they do business in, and that's without even touching SarbOx.
- bogomipz 10y ago
  >"It's very hard to police a world wide distributed teams, who have many conflicting views, all of who get paid based on what they produce and don't have much long term incentive to see things any other way." Why is this hard for management to police their own departments? Other industries manage distributed teams just fine. I agree with your other points in that passage. The real issues is that there exists a culture a criminality with little little fear of consequences. jail. The only way that's going to change is to start holding individuals accountable. >"I mean, in this case even the risk team singed off on it. What more could a CEO do?" Verify? These CEOs have insane compensation packages. They make more in a year than most people will in a lifetime. When questions about their insane pay packages arise, the party line always seems to be that they are worth it because they are "that good." If they are that good then more should be expected of them. They should be conducting independent audits - "trust by verify" or do some innovating in the area of compliance. Their M.O. is always to blame someone else, the buck never stops with them.
  - mikeash 10y ago
    Companies don't want to police their own departments. This is how lots of modern companies deal with laws they don't like. They commit to obeying the law, tell everybody not to do anything illegal, but at the same time place requirements and expectations on the peons that force them to break the law. Then the peons get caught, they tell everybody how it's not their fault, they told everyone not to do that. The peons get fired or worse, the company hires replacements, tells them not to break the law, gives them unrealistic expectations, and the cycle repeats.
    - 10y ago
btilly 10y ago
There is a subtle historical irony on this deal happening with an Italian bank. Italian banking, including the bank in question, got its start back in the middle ages by getting around prohibitions on usury with similar "guaranteed to lose" bets on currencies. The bank would give the borrower money in one currency now, and the borrower would give the bank back a different sum of money in another currency in 6 months. Given currency fluctuations, it was theoretically possible for the bank to lose the bet. Given the sums involved, this was very unlikely to happen in practice. (Jews had the same commandment against usury, but interpreted it to only apply to other Jews. They could lend to Christians all that they liked, and did. That is where the connection between Jews and moneylending got its historical start.) A lot has changed in the intervening centuries. The prohibition on usury was dropped, first by the Protestants and then by the Catholics during the counter-reformation. Banks have been regulated. And now the original workaround to allow loans at interest is seen as unacceptable. And so the Italian bank has been taken down by a deal that is very similar to the ones that got it started in the first place.
- otoburb 10y ago
  The song "Everything Old Is New Again" by Peter Allen & Carole Bayer Sager from the 1974 album Continental American seems apt.
  - partycoder 10y ago
    Like Admiral Yi Sun-sin and the turtle ships.
mwexler 10y ago
Speigel Online had a phenomenal article (Oct 2016) about the transformation of Deutsche from a staid German bank to a crazy highflyer. http://www.spiegel.de/international/business/the-story-of-the-self-destruction-of-deutsche-bank-a-1118157.html http://www.spiegel.de/international/business/the-story-of-th... is in English and is an interesting read.
jaclaz 10y ago
Somehow I need (as an Italian) to underline how the Monte dei Paschi di Siena was founded in 1472 (yes, that is 20 years before Columbus found America thinking to make a new route to India) and had prospered until the new economists/geniuses took over in the 90's. In other words "how to make five centuries (500 years!) of experience go waste".
- deleted 10y ago
  [deleted]
cekvenich3 10y ago
They used a spreadsheet.
valentt 10y ago
Now I understand what american bankers meant by saying "We won".
deleted 10y ago
[deleted]
valentt 10y ago
So this one investigation managed to neutralise all people at Deutsche Bank that were doing same things that most other banks are also doing - making highly risky semi legal investments and reaping profits. So now without those kind of people in Deutsche Bank the have no way of competing on global markets and will loose money while other bankers reap the benefits. Nicel done. Congrats to American bankers.
rtpg 10y ago
I'm having a hard time understanding why they could not execute this as a simple loan? Would that not have gotten around the requirements? My reading here is that the base mechanism of the trade was "DB gives X, receives Y% of X over Z years". I really wonder what % of transactions are this sort of fee-generating trade
- S4M 10y ago
  I suppose that with a loan it would be transparent that the money "gained" would have to be repaid later, while in the case of a sure to lose bet, the price of the derivatives could have been tweaked so it would be apparent only later that the money would be lost.
- FabHK 10y ago
  A loan doesn't change your profit for accounting purposes - you gain $$$ in cash (asset), but have the same $$$ as a loan (liability) on the other side of the balance sheet.
prirun 10y ago
Whatever happened to the "Greece crisis"? Deutsche was one of the banks on the hook for that mess, and now you hear nothing about it. Did little ole Greece have billions of dollars in a dusty treasure chest somewhere? All this financial crap is a scam...

238 points by mrkibo 10y ago

I wrote my feelings about how Deutsche got into this mess here. I think its still a valid take on how things unraveled. https://news.ycombinator.com/item?id=13047056 https://news.ycombinator.com/item?id=13047056 > Essentially, the trade had little economic purpose—only an accounting one. Yep, that's one of the first things you learn about when you take any kind of trading course. At a lower level in the cash equity markets you have something similar with wash trades. The rule of thumb has always been, did you swap any risk, if not then consider you may have done something dubious, not always, but its a very good first pass. > This month the bank agreed to pay $7.2 billion to resolve a U.S. probe into its subprime mortgage business, admitting it misled investors. Deutsche has paid more than $9 billion in further fines and settlements related to claims of tax evasion; violating sanctions against Iran, Libya, Syria, Myanmar, and Sudan; rigging the $300 trillion Libor market; and other alleged breaches of the law. I think this is going to be the new normal for banks from now on until they get completely out of trading an market making, which is probably going to be never. It's very hard to police a world wide distributed teams, who have many conflicting views, all of who get paid based on what they produce and don't have much long term incentive to see things any other way. I mean, in this case even the risk team singed off on it. What more could a CEO do. At some level you have to trust your people to make money and do it without breaking the laws of every country you do business in, even if those laws can conflict. Having said that, Deutsche bank is one bank that keeps coming up when fines and abuse in the baking system are in the news. They allegedly wrote famed hedge fund Renaissance Technologies their infamous basket option put that let RenTech claim that its short term trades were actually long term captial gains instead by virtue of them owning the put written by the bank that just happend to include every single short term trade Rentech did over the year. Deutsche got paid handsomly for writing the put and RenTech got the cliam long term capital gains vs short term capital gains. https://www.bloomberg.com/news/articles/2014-07-21/renaissance-avoided-more-than-6-billion-tax-report-says https://www.bloomberg.com/news/articles/2014-07-21/renaissan... Side Bar: I've said this before, but when the tell all book about RenTech is written, their genius will be confirmed but I think you'll find they did alot more shady things like the above to juice their returns.

rhizome 10y ago
At some level you have to trust your people to make money and do it without breaking the laws of every country you do business in, even if those laws can conflict. I have the sense that in many of these cases, the laws actually don't conflict. That is, they did things that are illegal in every country they do business in, and that's without even touching SarbOx.
bogomipz 10y ago
>"It's very hard to police a world wide distributed teams, who have many conflicting views, all of who get paid based on what they produce and don't have much long term incentive to see things any other way." Why is this hard for management to police their own departments? Other industries manage distributed teams just fine. I agree with your other points in that passage. The real issues is that there exists a culture a criminality with little little fear of consequences. jail. The only way that's going to change is to start holding individuals accountable. >"I mean, in this case even the risk team singed off on it. What more could a CEO do?" Verify? These CEOs have insane compensation packages. They make more in a year than most people will in a lifetime. When questions about their insane pay packages arise, the party line always seems to be that they are worth it because they are "that good." If they are that good then more should be expected of them. They should be conducting independent audits - "trust by verify" or do some innovating in the area of compliance. Their M.O. is always to blame someone else, the buck never stops with them.
- mikeash 10y ago
  Companies don't want to police their own departments. This is how lots of modern companies deal with laws they don't like. They commit to obeying the law, tell everybody not to do anything illegal, but at the same time place requirements and expectations on the peons that force them to break the law. Then the peons get caught, they tell everybody how it's not their fault, they told everyone not to do that. The peons get fired or worse, the company hires replacements, tells them not to break the law, gives them unrealistic expectations, and the cycle repeats.
  - 10y ago

btilly 10y ago

There is a subtle historical irony on this deal happening with an Italian bank. Italian banking, including the bank in question, got its start back in the middle ages by getting around prohibitions on usury with similar "guaranteed to lose" bets on currencies. The bank would give the borrower money in one currency now, and the borrower would give the bank back a different sum of money in another currency in 6 months. Given currency fluctuations, it was theoretically possible for the bank to lose the bet. Given the sums involved, this was very unlikely to happen in practice. (Jews had the same commandment against usury, but interpreted it to only apply to other Jews. They could lend to Christians all that they liked, and did. That is where the connection between Jews and moneylending got its historical start.) A lot has changed in the intervening centuries. The prohibition on usury was dropped, first by the Protestants and then by the Catholics during the counter-reformation. Banks have been regulated. And now the original workaround to allow loans at interest is seen as unacceptable. And so the Italian bank has been taken down by a deal that is very similar to the ones that got it started in the first place.

otoburb 10y ago
The song "Everything Old Is New Again" by Peter Allen & Carole Bayer Sager from the 1974 album Continental American seems apt.
- partycoder 10y ago
  Like Admiral Yi Sun-sin and the turtle ships.

mwexler 10y ago

Speigel Online had a phenomenal article (Oct 2016) about the transformation of Deutsche from a staid German bank to a crazy highflyer. http://www.spiegel.de/international/business/the-story-of-the-self-destruction-of-deutsche-bank-a-1118157.html http://www.spiegel.de/international/business/the-story-of-th... is in English and is an interesting read.

jaclaz 10y ago

Somehow I need (as an Italian) to underline how the Monte dei Paschi di Siena was founded in 1472 (yes, that is 20 years before Columbus found America thinking to make a new route to India) and had prospered until the new economists/geniuses took over in the 90's. In other words "how to make five centuries (500 years!) of experience go waste".

deleted 10y ago
[deleted]

cekvenich3 10y ago

They used a spreadsheet.

valentt 10y ago

Now I understand what american bankers meant by saying "We won".

deleted 10y ago

[deleted]

valentt 10y ago

So this one investigation managed to neutralise all people at Deutsche Bank that were doing same things that most other banks are also doing - making highly risky semi legal investments and reaping profits. So now without those kind of people in Deutsche Bank the have no way of competing on global markets and will loose money while other bankers reap the benefits. Nicel done. Congrats to American bankers.

rtpg 10y ago

I'm having a hard time understanding why they could not execute this as a simple loan? Would that not have gotten around the requirements? My reading here is that the base mechanism of the trade was "DB gives X, receives Y% of X over Z years". I really wonder what % of transactions are this sort of fee-generating trade

S4M 10y ago
I suppose that with a loan it would be transparent that the money "gained" would have to be repaid later, while in the case of a sure to lose bet, the price of the derivatives could have been tweaked so it would be apparent only later that the money would be lost.
FabHK 10y ago
A loan doesn't change your profit for accounting purposes - you gain $$$ in cash (asset), but have the same $$$ as a loan (liability) on the other side of the balance sheet.

prirun 10y ago

Whatever happened to the "Greece crisis"? Deutsche was one of the banks on the hook for that mess, and now you hear nothing about it. Did little ole Greece have billions of dollars in a dusty treasure chest somewhere? All this financial crap is a scam...