Credit Suisse is a well-known investment bank with Swiss headquarters. It has existed since 1856 and is one of the world’s largest banks.
Many people, however, feel that the bank may now be in significant financial difficulties, and some predict the complete collapse of the global banking system.
How did we come to this point, and do these claims have any merit? This is the crucial question.
There have been a few worrying developments. First, the share price of the corporation has been falling drastically. The price has plummeted by about 50% in the past six months.
The issue with Credit Default Swaps follows. We will not get into the specifics, but a bank like Credit Suisse must borrow money to continue operations. However, lenders only sometimes expect they will be repaid in full. Instead, they may purchase a credit default swap to protect themselves against an unusual default event (CDS). It is similar to insurance, except that the provider will compensate the lender if Credit Suisse defaults on its responsibilities. Now, by examining the premiums quoted for these products, you can determine whether there is an actual risk of default. For example, if a third party informs you that they will insure you against default, but only if you pay an absurdly high premium, you could argue that Credit Suisse may fail.
That’s why you’re being charged so much.
Moreover, Credit Suisse CDS premiums are currently off the charts. Even greater than the amounts cited in 2008, when it was widely believed that the banking sector would collapse under its weight.
Yesterday, though, the CEO started to alleviate these concerns. He said, and we cite him:
“I know it’s not easy to remain focused amid the many stories you read in the media — particularly given the many factually inaccurate statements being made. That said, I trust that you are not confusing our day-to-day stock price performance with the bank’s strong capital base and liquidity position.”
However, the declaration did not do anything. People began pointing out that this comment sounded similar to what Lehman’s CFO said about the company’s capital position fourteen years ago. This occurred in September 2008, just before the bank failed.
Even renowned author and trader Nassim Taleb stepped in, tweeting, “All rumours are untrue until officially denied.” The fact that the chief executive of one of the world’s largest banks must categorically deny such rumours does not alleviate any anxieties, according to his argument.
In addition to the rumours, there is genuine anxiety regarding the bank’s financial situation.
Let’s begin with risk management failures. When you have a significant investment banking division like Credit Suisse, it is essential to prudently deploy capital (money). This explains why large banks like Credit Suisse will have complete risk management divisions. In recent years, the bank appears to have made increasingly risky moves.
Consider the Greensill catastrophe. They were the most prominent non-bank provider of supply chain financing. To serve clients worldwide, they borrowed substantial sums from outside investors. Among the external investors is Credit Suisse. In turn, Credit Suisse persuaded its clients to invest massive sums of capital — $10 billion, to be exact. And when Greensill went bankrupt, the bank and its customers both suffered.
In addition, there is the infamous Archegos Capital debacle. Here, a family office gambled significant sums of money on hazardous stocks and ultimately lost everything. However, since they borrowed money from Credit Suisse to finance these trades, the bank also took a significant loss.
Last year, they also paid almost $275 million to address historical issues with regulators in the United States, the United Kingdom, and Switzerland. This has also yet to improve the situation. Afterwards, there was a broad slowdown in the investment banking industry. Insufficient Mergers, Acquisitions, and financing operations are occurring. Therefore, Credit Suisse has fewer opportunities to work on these deals and increase income.
All of this raises its cost of capital. The bank is being compelled to pay a higher interest rate on its borrowings, harming its profitability. This explains why the bank has posted losses in the last three quarters.
The prevailing consensus is that the bank may soon find itself in a precarious position. They are losing exceptional talent. Investors have yet to favourably receive their plan to split the investment banking division into three pieces. And there is considerable anxiety regarding the bank’s capitalization, i.e., whether it has sufficient funds to meet its obligations.
If they do not comply, they may default. And a default won’t go over well with anybody because Credit Suisse doesn’t operate in a vacuum. It is linked to the global banking system. It has systemic significance. That is, its failure might precipitate the collapse of the entire banking system.
Will it happen?
We simply do not know. However, we hope and pray that it will not come to that because the world cannot afford another global financial disaster.
