European Banks Face Another Weekend of Instability as Default Risks Rise

European banks are bracing for another weekend of uncertainty as the cost of insuring against their potential default risk continues to rise.

Shares of Deutsche Bank fell over 7% on the New York Stock Exchange on March 24 after a down day on Frankfurt’s markets. The German bank’s five-year credit default swaps (CDS) climbed 19 basis points from the previous day, closing at 222 bps, according to Reuters, citing S&P Global Market Intelligence data.

Credit default swaps allow investors to swap or offset their credit risk with another investor, and are often used by lenders concerned about a borrower’s default to hedge that risks. During periods of uncertainty, market participants generally assign a higher price to protection.

UBS’s five-year CDS also reportedly jumped up 14 bps on March 24 to close to 130 bps, just a few days after the company acquired troubled competitor Credit Suisse for $3.25 billion as part of an “emergency ordinance” to prevent financial market instability in the region. Under the agreement, the Swiss National Bank has committed to providing UBS with over $100 billion in liquidity.

Despite the rescue of Credit Suisse, investor uncertainty about the European banking system remains high. On March 24, shares of Commerzbank declined by as much as 9%, while Société Générale and UBS tumbled over 7% in European trading. Deutsche shares are down over 25% in the past 30 days.

“This shouldn’t be all that surprising given the whipsaw of going from a zero-interest-rate environment to the fastest rate hikes in recent history,” said Danny Oyekan, CEO of digital investment firm Dan Holdings. “So many banks got caught up in a duration trap of sorts, having bought long-dated bonds that have since seen their value eviscerated by the Fed’s rate hikes.”

While the collapse of US-based Silicon Valley Bank on March 10 required regulators in the US and the UK to curb a potential ripple effect across the banking system, a similar failure for Deutsche Bank or other European banks is unlikely to happen, according to Ilya Volkov, CEO of the Swiss fintech platform YouHodler.