Deutsche Bank is investigating several employees to establish whether they improperly traded credit-linked structured notes (CLNs) issued by the bank.
The German bank is probing a transaction it arranged in 2009 that 'sought to profit from differences in the prices of credit indices and the underlying credits making up the indices'. By purchasing exposure to an index and selling the underlying credits or vice versa, Deutsche Bank could achieve a profit and remove risk from its own balance sheet. According to the bank, these were especially common transactions throughout the market at the time and remain so today.
"We are reviewing a transaction that may have involved unacceptable conflicts of interest when structured in 2009," said the bank in a statement. "Based on our findings to date, we believe that no client was disadvantaged by this transaction."
To source capital for the transaction, a special purpose vehicle (SPV) arranged by Deutsche Bank sold credit indices-linked structured notes to senior and junior investors. According to the bank, senior notes were sold to Axa, the French insurance and asset management investor, which received a fixed return for taking exposure to Deutsche Bank credit risk; while junior notes were sold to Greengate, a private investment company, and to six Deutsche Bank employees who co-invested as part of their personal account dealing. 'These junior notes investors received a fixed return and the opportunity to benefit from various fees and trading in the price differences in the credit market,' stated the bank.
Media reports point that Colin Fan, former co-head of the bank's investment banking and trading unit since 2012 who left the bank at the end of 2005, allegedly racked in €8m on a €1m investment, and that two of the other senior DB employees, John Pipilis, co-head of global credit trading, and André Muschallik, a senior salesman, remain at the bank. The other three DB employees who invested in the trade alongside Greengate and Axa, and allegedly made €35m on a €4m investment, have parted ways with the bank.
Deutsche's internal investigation was triggered in 2015 by a group audit following the discovery of the transactions as part of the bank's deleveraging programme, and includes an enquiry on the background and rationale for the transaction, the approval process, the existence of any potential conflicts of interest and the supervision of related trading activity.
Deutsche confirmed that the internal investigation remains ongoing and that no conclusions should be drawn at this stage. "As we conclude our investigation, we will take disciplinary measures where appropriate and review further our controls to minimize the chances of a reoccurrence," stated the bank. "In accordance with our usual practice, we have suspended the payment of variable and deferred compensation to certain individuals pending the outcome of our ongoing review."
Deutsche's probe follows an investigation launched by the German Federal Financial Supervisory Authority (Bundesanstalt für Finanzdienstleistungsaufsicht - BaFin) in early March to establish the suitability of CLN sales to German retail investors. Shortly after, an academic research report on the pricing of CLNs issued by the four major issuers in the German market found that credit-linked notes (CLNs) are generally overpriced in the primary market and market makers, as issuers of structured financial products, have the incentive to overprice as they participate in almost every transaction.
Credit has been the fastest growing asset class in the German structured products retail market since 2010, overtaking commodities, hybrid and interest rates structures in 2012, according to SRP data. Issuance of structured products with a credit default payoff type in Germany has increased by 518% over the last five years: in 2015, credit structures were the fourth most popular product, with 408 products; single shares accounted for 3,166 products, indices 1,123, and baskets of shares 428. Landesbanken Baden Wuertemberg, with 960 products, is the most active distributor of CLNs, followed by DekaBank (329) and DZ Bank (255).
Deutsche Bank restructured its global equity derivatives (GED) sales and structuring divisions as part of the overhaul of its equities segment at the end of 2015.
A Bafin spokesperson declined to comment on "individual cases".
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