A few weeks ago, the bankrupt Lehman Brothers which triggered a global financial crisis, concluded their liquidation, 14 years after the 2008 crisis. The company’s 1.1 lakh customers, secured and unsecured creditors were paid USD 115 billion in a settlement. The company was United States’ fourth-largest investment bank in 2008, before filing for bankruptcy with USD 600 billion in debt. A decade has passed by, but a conversation about Lehman Brothers and the global financial crisis that followed the same sends shivers down people’s spines who experienced those tough times. We are once again talking about the 2008 global crisis because these are tough times right now.
Governments across the world have taken several spontaneous measures to recover from the COVID-19 pandemic. While news such as ‘the economy has reached back to pre-pandemic levels’ is making the rounds, it doesn’t necessarily convey that the global economies are in a healthy state. We have discussed this in our earlier newsletters as well. The pandemic resulted in deflation and boost the economy Governments infused liquidity into the economy. Businesses became heavily leveraged, individuals borrowed money to thrive, and now we are seeing inflationary times (something expected as a result of liquidity infusion). Russia’s attack on Ukraine and OPEC+ controlling oil supply has added to the woes. Central Banks are finding it difficult to control inflation and are taking the necessary steps by increasing policy rates. However, all these signs did not signal a global crisis, until… the share price of Credit Suisse started falling!
What is happening at Credit Suisse?
Credit Suisse is a global investment bank and financial services firm, based in Switzerland. It was founded in 1856 and today is one of the largest banks in the world. It is one of the nine ‘bulge bracket’ banks of the world. The bulge bracket is the term used for banks that provide advisory and financing services, along with sales, marketing, and research of financial products including equities, commodities and their derivatives. These banks also invent new financial products such as mortgage-backed securities (MBS) in the 1980s, credit default swaps in the 1990s and collateralized debt obligations (CDO) in the 2000s. The latest addition is carbon emission trading and insurance-linked products. Credit Suisse is one of the world’s most important banks upon which international financial stability depends. However, the concerns over its financial stability are at their peak.
The share price of Credit Suisse has tanked more than 50% in the last 6 months. Its market capitalisation has reduced to USD 11 billion. Even Indian banks – HDFC Bank, Axis Bank, State Bank of India, ICICI Bank and IndusInd Bank have a higher market capitalisation than that. Besides, the premium to buy the credit default swap (the insurance that investors buy when investing in bonds) has also skyrocketed. They are currently at their highest levels since 2008. These are clear signs that the company is in financial distress.
What went wrong at Credit Suisse?
Over the past three quarters alone, Credit Suisse has incurred losses that have hit nearly USD 4 billion. The ratings have also downgraded its financing costs. The bank has been affected heavily by the collapse of Archegos Capital Management which cost the bank USD 5.5 billion last year and further losses this year from supply-chain finance company Greensill Capital. These losses have increased the bank’s cost of capital and therefore, the heavy losses. Besides, there have been multiple changes in its top leadership since 2020. The company has been assuring its staff, counterparties, clients and investors that its liquidity and capital position are strong. CEO Ulrich Koerner made an assuring statement that there are many factually inaccurate statements being made in the media and that the day-to-day stock price performance should not be confused with the strong capital base and liquidity position of the bank. However, even the Lehman Brothers had made a similar statement before it collapsed in 2008. More importantly, the issue isn’t restricted to Credit Suisse alone. Other banks who are usual suspects such as Deutsche Bank and UBS have also seen their CDS rising. And therefore, nobody is just ready to accept that statement.
Every bear market has produced national and corporate victims who get speared. In 1997-98, it was Thailand’s economy and the LTCM Hedge Fund. In 2008, it was Iceland’s economy and Lehman Brothers. It’s 2022, is it Switzerland’s economy and Credit Suisse this time that will get skewered? More importantly, will it trigger another global financial crisis?
The impact and turnaround
Credit Suisse’s Indian branch has a balance sheet size of only INR 20,732 crores as of FY2022. While the European economies are expected to be most affected by a possible collapse of the company, the repercussions would be felt around the world including India. According to market analysts, Indian markets may see a temporary correction. The bank has launched a strategic review that will focus on strengthening the bank’s flagship wealth management business and reducing investment banking into a capital-light, advisory-led business. The company is also considering asset and business sales. The company has also offered to buy back debt securities for cash worth approximately 3 billion Swiss francs (USD 3 billion). However, given the negative news flow, analysts believe that there is significant execution risk in any new strategic plan that the bank may come up with. The investors are now closely watching the action from the Swiss government and awaiting whether the company will be able to execute its restructuring plan.