Deutsche Bank (DB) Ratings Cut by Moody's; Outlook Stable

Moody's Investors Service, a rating arm of Moody's Corporation MCO, recently concluded the review of Deutsche Bank AG DB and its subsidiaries' for a possible rating downgrade. The German bank's long-term deposit rating has been downgraded from A2 to A3, senior unsecured debt rating to Baa2 from Baa1, standalone baseline credit assessment BCA of baa3 to ba1 and counterparty risk assessment of A2(cr) to A3(cr).

Further, short-term rating has been lowered from Prime-1 to Prime-2 while short-term counterparty risk assessment was reduced to Prime-2(cr) from Prime-1(cr).

However, the outlook is affirmed at stable attributed to expected long-term benefits to creditors after achievement of Deutsche Bank's strategy plan through 2020.

Rationale Behind the Downgrade

The reason behind the downgrade is the persistent problems Deutsche Bank has been facing in implementing the moves to stabilize profitability over the next three years. Following the weak capital markets operations, Deutsche Bank's performance has been weak over the past few quarters.

According to Moody's, persistent low interest rates and uncertain global environment will result in reduced customer volumes and revenues for Deutsche Bank's retail, asset management and institutional business.

Cryan who succeeded co-CEO Anshu Jain last June inherited the task of executing the bank's "Strategy 2020." Notably, Strategy 2020, which was unveiled in Apr 2015, contains several measures including initiatives to reposition Investment Banking, reorganize the retail business and trim down the geographic footprint, with the aim of achieving net savings of €1–€1.5 billion by 2018.

According to Moody's, amid the ongoing revenue and expense headwinds, achieving the target of cost-to-income ratio of about 70% for 2018 seems unachievable for Deutsche Bank until sustainable operating environment is visible. "Deutsche Bank's new management team is executing in a disciplined way, but the headwinds have stiffened, reducing the firm's operating flexibility", said Peter Nerby, a Moody's Senior Vice President.

Cryan is expediting efforts to revamp the bank. In a Jul 1 memo, Cryan emphasized the need to simplify the bank's business model, reduce costs and pull back unprofitable businesses. We believe that the gradual execution of the restructuring moves should support the company's growth prospects. Notably, Cryan expects to sort out most of the legal issues by the second or third quarter of 2016. Moreover, strong capital and litigation reserve position along with its asset risk profile supports the bank's creditworthiness and caters to its financial flexibility.

Conclusion
 
The rating outlook is valuable for firms since these preserve investors' confidence in the stock and boost its creditworthiness in the market. However, a downgrade in the same lessens investors' confidence and reflects the company's weak financials.

Though the new CEO of Deutsche Bank appears proactive, it is really difficult to predict the extent to which the bank will benefit from his leadership, more so in the face of the current headwinds. Though Strategy 2020 is encouraging and we expect the initiative to improve operating efficiency, since the European economy is yet to stabilize, we do not foresee a favorable change in the near term.
 
Deutsche Bank currently carries a Zacks Rank #5 (Strong Sell). Better-ranked foreign stocks include Canadian Imperial Bank of Commerce CM and Shinhan Financial Group Company Limited SHG, both sporting a Zacks Rank #1 (Strong Buy).

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