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"We are using credit derivative technology in new industries, in project finance, in structured lending, film financing, life settlements and financing acquisitions," says Misra. "Which is why our revenues are up in credit derivatives by 50%. We are by a far margin the biggest revenue earner in credit derivatives on the landscape we are not going to make a living by just doing flow derivatives, correlation and flow market making. We do that and we are number one or two in market share but we are not going to make billions in revenue doing just that."
More than a year ago, Misra established an illiquid credit division consisting of two main business lines: special situations and global principal finance. Between these two areas Deutsche has approximately 200 professionals using structured credit technology to provide solutions and create opportunities in a variety of non-flow sectors as diverse as Italian healthcare receivables, catastrophe risk, event-driven transactions and US insurance life settlements.
There are several examples of how the bank is making the most of this investment. For instance, via the creation of event-loss swaps, Deutsche has provided a mechanism that enables capital markets participants to express views on specific risk categories in the property/catastrophe market through a derivative contract that resembles a CDS.
Another innovation that Deutsche brought was called Newlands Financial. Launched in March alongside Axa Investment Managers, this is the first bank-sponsored credit derivative product company and has $510 million of committed equity and debt capital.
Other non-flow activity that Deutsche has pioneered includes providing two leading European infrastructure companies with highly tailored risk transformation solutions by using CDO technology, enabling them to risk manage specific credit exposures.
Boaz Weinstein, who runs US integrated credit trading at Deutsche, points to his firms leadership in one of the biggest stories to have taken place in the credit market during the past 12 months. The volatility that affected sub-prime RMBS markets offered risk but plenty of opportunities. Deutsche, and its clients, enjoyed significant profits from going short of the ABX index.
"On the sub-prime side, it wasnt just that we had the position right it was the amount of evangelizing the head of the desk did. To go and see clients, clients who had never used ABX before. We got clients in [on the trade] from all areas, some didnt know how to spell ABS!" says Weinstein. "We went to 52 hedge funds, we educated them for hours," Misra explains.
Deutsche was also notable for continuing to make markets in the newly launched tranched ABS product in the face of sub-prime volatility in February.
"I think that one of the things that is unique about the platform and something that over the year has helped us position our business in the market is that more than anyone weve moved further in integrating our cash with the synthetic business," says Richard dAlbert, global head of securitization and CDOs at Deutsche.
Correlation trading is part and parcel of the overall CDO platform and this has allowed Deutsche to coordinate its activities and more easily introduce structural features that enable managers to create relative value opportunities. For instance, it sold various ABS CDOs that incorporated long/short structures. Dutch Hill 2 was a first of its kind, a long/short capital structure arbitrage mezz ABS CDO where the long BB tranche was hedged by going short individual credits-related exposures such as homebuilders. Given what has happened in the market, this has turned out to be a very thoughtful structure.
Deutsche also pushed a big capital structure arbitrage effort linked to LBO risk. "In a world where the default rate is zero we have to think how to add value to clients. It is not by publishing high-grade research, we took that [resource] onto the trading desk and made it more tactical. They [desk analysts] are looking at things like covenants and basis, reacting tactically to news," says Weinstein.
The firm has shown global leadership with its credit opportunity funds platform. It has raised more than $1 billion and 250 million of equity for such funds. Its standout deal was Ares ECO, which raised the first hedge-fund style capital, the biggest ever single-issue credit opportunity fund. Deutsche raised $1.8 billion, comprising $300 million of equity and $1.5 billion of debt.
However, in the flow corporate credit derivative/structured credit space, Deutsches Misra admits that the bank has allowed the competition to catch up in recent years.
"A lot of our senior management moved into illiquids and moved over to the prop side of the business and that allowed others to catch up [with Deutsche]. It is about basic block-and-tackling, market making and getting volumes up. We slipped a bit. We lost the PR associated with the flow," says Misra. But Deutsche is still a top-three player in single names, indices and correlation trading and can boast unparalleled breadth to its activities in new products and new markets.