What Happened To Credit Suisse?
There is an old adage that history repeats itself. Most of us remember the 2008 ‘Lehman Moment', when Lehman Brothers collapsed. As per some estimates, Swiss giant Credit Suisse is set to meet the same fate. While these are mere speculations, nothing can be said for sure until the push comes to shove.
What is Credit Suisse?
It was founded in 1856, with the initial aim of developing Switzerland's railway system. It issued loans for developing the electrical grid and the European rail system. Today, Credit Suisse is a global investment bank and financial services firm based in Switzerland. Headquartered in Zurich, it maintains offices in all major financial centers around the world. It is one of the nine global ‘Bulge Bracket' banks that provides services in investment banking, shared services, and asset management. It is known for its strong sense of confidentiality and secrecy. The financial stability board considers it to be a global bank of importance, that is, if it collapses, it will have a profound impact on the economy. Credit Suisse is also a part of Domestic Systematically Important Bank released by RBI.
What has happened?
Credit Suisse is at the center of market turmoil amid rumors that the bank can collapse anytime. Investors are rushing to sell the bank's shares amid concerns about its financial health as it prepares to unveil a costly restructuring plan later this month.
The situation has invoked comparison with Lehman Brothers, a US-based investment bank that collapsed in 2008. It precipitated the 2008 economic crisis, which is touted to be the worst since the 1930s Great Depression. Over the past few days, the share price of Credit Suisse has collapsed by 60 percent. The spreads on credit default swaps (CDS) have spiked to a 14-year high, the highest since the 2008 financial crisis. (CDS is a kind if insurance instrument. An investor who has lent money to a firm will want a guarantee that the company can pay them back. If the company fails to do so, the insurer will do so)
The most recent trigger for this situation is a letter written by CEO Ulrich Koerner to Credit Suisse employees on September 30. “I know it's not easy to remain focused amid the many stories you read in the media in particular, 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 strong capital base and liquidity position of the bank.” He wrote. This CEO’S statement, while consolatory, calls into question why such a statement was needed if all was going well.
As per some estimates, Credit Suisse has about 50,000 employees and 1.6 trillion Swiss francs or $1.6 trillion under management at the end of 2021. However, the share price has been witnessing a steep decline since the 2008 global crisis. Another cause of concern is its fall in bond price. Since fewer people want to lend money to it, the bond yields have risen sharply. This means the bank will have to pay a higher return for every dollar it borrows from the market. This is problematic given the rising interest rates of banks and ever-growing inflation.
So is it the end of Credit Suisse?
A bank with worsening profitability has to raise money at rapidly rising interest rates. However, if the market does not provide adequate returns, it is bound to struggle. The other worrisome issue is the rise of credit default swaps. This signals lost of investor confidence. It is also noteworthy that the spread of CDS has increased radically (What is CDS? The insurance firm selling the CDS gets a certain rate of interest, this is called the spread of CDS. When these spreads rise, they signal the rise of probability that a certain bond will fail)., and spreads have spiked to a 14-year high.
Looking at the situation the obvious answer would be a resounding yes, signaling the bank's end. However, one should not draw a conclusion so fast. The lender has a massive store of capital that can withstand any losses. They have a huge liquidity cover ratio, that is, a lot of cash. We should also note that the global financial environment has changed significantly since the Lehman Brothers' 2008 fiasco and banks are more tightly regulated and have more capital to manage risk. Further, Credit Suisse is all set to bring about a new plan on October 27 to manage the situation. The fate of the mammoth lender is still cloudy, but no conclusion should be drawn prematurely.
