This is Why I'm Not Worried About Credit Suisse Hurting the Indian Market

In Romeo and Juliet, Shakespeare wrote, "What's in a name"?

Well, if your name is Axel Lehman and you are the MD of Credit Suisse, there is a lot in the name.

With WhatsApp groups flooded with messages declaring Credit Suisse to be the Lehman of 2022, having a CEO with the surname Lehman doesn't help.

Also, what doesn't help, is the management of Credit Suisse releasing a statement saying while the bank is at a critical juncture, their liquidity position is strong.

The reason I'm writing about this is because exactly 5 days before Lehman Brothers and Bear Sterns defaulted, both these banks made similar statements.

While many of you would have got messages on WhatsApp about the credit default swap (CDS) spreads of Credit Suisse surpassing 2008 levels, the consensus is that Credit Suisse (and even Deutsche Bank) is going to go under.

To start with, if predictions about defaults of top investments banks of countries were made on WhatsApp groups, I'm sure the world would be very different.

When was the last time, consensus proved to be right? And that too for an event which is being compared to the 2008 bubble?

There is no doubt that Credit Suisse along with Deutsche bank are facing turbulent times. But trust me, nobody has an idea whether either or both banks are going to default.

Let me play the devils advocate and try to figure out what's going on. After all, it's an analyst's job to predict events and profit from it. Our entire job is based on assumptions.

So here is what I think about the whole Credit Suisse saga.

• Credit Suisse 2025 Bonds

  The Credit Suisse 2025 bonds are currently trading at 6.4%. This has shot up from 4.5%, just two months ago.

  People view bond yields on absolute basis. But it should be seen relatively.

  Did you know, bonds of Vedanta Resources trade as high as 18%? This indicates a much higher chances of default.

  Obviously, the size of the two can't be compared. Credit Suisse is a giant. In fact, while browsing through twitter, I came across this startling statistic. With the ongoing Russia-Ukraine war, Ukraine's 2025 debt is trading at 67%.

  So the chances of Ukraine defaulting are quite high.

• Reported financials way better than 2008

  The market has doubts on the reported numbers.

  Credit Suisse, tier 1 capital was at 13.5% as on July 2022 quarterly updates. The international regulatory requirement is 8% while the Swiss Fed mandates a 10% capital adequacy.

  You will be surprised to know that in 2008, many banks had capital adequacy cover of 5% or less.

• The Two Main Problems

  Credit Suisse's core banking business along with the wealth management business are in fact profitable and considered as its cash cow.

  The problem lies in litigation expenses and provisions which keeps on draining capital. Investment banking too is the culprit.

  If they steady these two things, then it doesn't look as ugly as it is made out to be.

  The point I am trying to make is this. There's nothing wrong with the business model. In fact, rising interest rates by the Swiss Bank aids the banks core business of lending.

Now let me focus on some common sense points.

The most important question here is this...

When was the last time a Black Swan Event happened with everyone knowing about it?

How many people knew about Lehman or Bear Sterns?

Let me rephrase the question. How many people could get ahead of the financial risk management and figure out the contagion and collapse of the world financial system?

The answer is very few.

May be a handful like Michel Burry.

Black Swan events happen without a warning and if 21-year teens on Whats App and twitter discuss about banks failing, then it is not a black swan event.

While I have no second thoughts that all is not well with Credit Suisse, but the question is are we overestimating what is happening around us?

Here's some food for thought. Will the Swiss Federal Bank or the Swiss Government let one of its priced banks default?

US$ 10-20 bn injection to save the bank isn't a big amount for a government of a developed economy.

If Europe can fund high energy bills of customers by doling out cash, I'm sure the Swiss government can do much more to save a bank from collapsing.

To sum it up, the stock markets never react to known information. It's always the unknown which moves markets either way.

As investors it's prudent to not focus on speculative stuff like this. Instead it's important to focus on valuations and growth.

In fact, macro events should be used to buy stocks which have always been on your watchlist but were too expensive.

To give you a sense of valuations, let us look at the smallcap index which is more volatile to negative events.

In a normal course of a valuation cycle, the index has fallen by 30-35% from the top and thereafter formed a bottom. Please note this is with the assumption that no major black swan event happens.

NSE Small Cap Index	Time frame	Price to Book (P/B)
Peak	January 01, 2013	1.5
Bottom	August 01, 2013	1
	Fall	-33%
Peak	January 15, 2018	2.6
Bottom	August 13, 2019	1.7
	Fall	-35%

Source: NSE, Equitymaster

So Where Are We Now?

NSE Small Cap Index	Valuations	Price to Book (P/B)
Peak	October 14, 2021	3.9
Current valuations	September 30, 2022	3.1
	Fall	-21%

Source: NSE, Equitymaster

We have fallen 21% from the top.

I believe, we still have about 10-15% fall at the index level, before it bottoms. Thus Indian small-cap stocks could be getting close to attractive levels.

In my opinion, it's a good idea to keep your smallcap watchlist ready.

The Dalal Street sale is half way through. More discounts likely to come.

Warm regards,


Aditya Vora
Research Analyst, Hidden Treasure