Our Take: Will Deutsche Cut More Heads?

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Until last quarter, Deutsche Bank was weathering the credit crisis better than most of its global counterparts. Despite a string of credit-related writedowns and trading losses since the third quarter of 2007, the bank's other businesses generated enough profits to keep the bottom line above water and avoid having to tap a government bailout fund.

Deutsche's fourth-quarter net loss of 4.8 billion euros ($6.7 billion at the year-end exchange rate) announced Wednesday, and its withdrawal from proprietary credit trading, show it's not immune to the forces driving other global banks to reduce headcounts. The company already eliminated 900 trading jobs late last year as part of an announced pullback from proprietary trading. But that might not be enough. (Deutsche Bank had no comment.)

Compared with other big-league banks, the Frankfurt-based institution has relied less on merger advisory and more on credit trading, especially credit derivatives and structured products. It managed those risks better than rivals, says an investment banking headhunter. "But even if you exercise and eat right, you're going to get sick from something," he says in reference to the industry-wide cataclysm that occurred in the fourth quarter. "If it's in the air, you'll eventually catch it."

A Replay of Goldman Sachs?

Indeed, Deutsche's experience resembles that of Goldman Sachs. Goldman, too, defied the credit crisis during 2007 and most of 2008. It succeeded in hedging exposures to various troubled assets by running large proprietary bets against sub-prime mortgage indexes, using credit derivatives. Deutsche, for its part, bought credit protection on various bonds as part of a hedged trading strategy. Both firms' success began to unravel last September, when the bankruptcy of Lehman Brothers triggered a chain of events that sent markets tumbling across the board and made liquidity so scarce that hedges stopped working.

Goldman, which posted its first quarterly loss in a decade as a public company, reacted by laying off at least 3,200 people, or 10 percent of its worldwide staff, starting in October. Deutsche laid off 900 traders starting in November. But its company-wide headcount had swelled by about 3,000 during the first nine months of 2008.

Counting Heads

To be sure, Deutsche's problems are concentrated in the investment bank's corporate banking and securities unit. That business posted pre-tax losses in four of the past five quarters, and is the main cause of the 3.9 billion euro net loss the company expects to report for all of 2008.

According to documents on its Web site, Deutsche's corporate banking and securities staff peaked in September 2007 and came down by about 2,000 through September 2008. Including the 900 trading jobs eliminated last quarter would bring the total reduction to 2,900, or 22 percent of that business segment's peak employment level.

That looks like, and is, a big number. But here are some other numbers to place it in context: Revenue from corporate banking and securities skidded 68 percent in the first nine months of 2008 compared with a year earlier. Company-wide, net revenue fell 39 percent in that period and the compensation ratio climbed to 52 percent of revenue from 42 percent. And those figures don't even include the terrible fourth quarter.

What's more, the debt trading activities the bank is moving away from contributed a big chunk of its business. In 2006 and 2007 debt sales and trading (both for customers and for its own account) accounted for half of Deutsche Bank's investment banking revenue and roughly 30 percent of overall revenue. With the proprietary part of those cash flows now out of the picture, it's reasonable to anticipate pressure on staffing levels won't be confined to the trading desks. For instance, as of last Sept. 30 Deutsche had 33,600 full-time employees handling "infrastructure functions" - a catch-all group covering back-office operations, legal, marketing and other corporate departments. That number was up 12 percent from a year earlier, and made up 41 percent of the bank's total headcount.

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