What’s Up with Kushner, Deutsche Bank, and VEB?

I have tried to figure out what is behind news about a loan from Deutsche Bank to Jared Kuhsner and his meeting with the chairman of the Russian bank VEB, Sergei Gorkov. It is tempting to connect dots just because they are there. One thing to keep in mind here is that there may simply be no connections. But then there could be in this case. Since reports in the media did not make sense to me, I tried to think this through myself.

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To explain my perspective: I have worked in the financial sector for a long time, but currently do not. I have never worked for Deutsche Bank. What I did was manage corporate bond funds for institutional investors. This is a pretty different business, but then bonds are similar to loans, so I guess I have some insight. To avoid any misunderstanding: I have not been involved in anything that came close to what I speculate about. I have also not seen this in the companies I have worked for, not even remotely.

There are plenty of internal and external controls in such financial institutions to keep an eye on activities that might be illegal or run afoul of regulations. In my experience, companies with a reputation on the line are very anxious to avoid them. I assume that also holds for Deutsche Bank. If you get something wrong, it cannot only lead to legal trouble, but it can also deliver a heavy blow to your public image. So the inclination is rather to stay away from potential problems even if something looks legal, just in case.

That’s why I found accusations against Deutsche Bank unfair as if they were almost some mafia organization that engages in all kinds of illicit activities. My opinion of Deutsche Bank is quite low: I think they are a weak bank and have problems with their corporate culture. But to paint them in this light is not warranted in my view. I sensed an underlying nativism, too: “They are a foreign bank, what more do you have to know?” This is not because I am German, and certainly not because I have any obligation to Deutsche Bank and have to play their spokesman. I just found it unfair.

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What I can imagine, though, are two things: The first is that some internal department of Deutsche Bank goes rogue and engages in something that brings in business although it is borderline legal or even illegal. Or even only people within some such department. The bank as a whole would then not be the culprit, only perhaps indirectly because of bad governance and lack of controls.

I guess, with a large business, some things of this kind will happen. To enumerate such cases, does not prove that the bank as a whole is a rogue player and then go on to draw further conclusions on this basis about any of their business dealing. I have seen this, though, many times. Suppose employees of Walmart committed crimes on the job. Would that mean that Walmart is basically a criminal organization? No, although it would raise questions about the supervision of their employees.

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The second point is trickier: It is not always easy to tell whether something is legal or not. You can try to get a handle on it in advance and it may look okay. But later the interpretation of some law or regulation turns out to be different. Especially in the financial sector that can easily happen. So you do some deals that, to the best of your knowledge, are legal. And later, it blows up anyway. To the public, this can then look as if it was illegal on purpose. As far as I understand it that has been a major problem for Deutsche Bank in the past, not that they were seeking business that is clearly illegal from the get-go.

What makes it hard to tell what is legal and what is not is this: If you have two deals that generate the same cashflows, ie. the same amounts, at the same times, and with the same risks, in an economic sense they are equivalent. However, in a legal sense, they might not be the same. The deals could consist of parts which fall under different laws and regulations. They might also be in different jurisdictions and under different supervisory bodies. Since there are diverging views on the matters involved, one deal might be illegal, the other legal.

A bank may now look at it from the benevolent side: If we structure the deal in this way, it is legal. However, what can happen later on is that someone looks at it and determines that it is equivalent to another deal that is illegal or in breach of some regulation. That is not obvious, it depends on how this develops via precedents in the courts or how guidelines for regulations change.

So in retrospect what was reasonably within a legal range can turn out to be illegal, but maybe only in one jurisdiction, not in another. The US has a rather expansive view here: “US law holds worldwide.” And since, the US has a lot of leverage via granting market access, it can often force this through. Add to that an economically illiterate public that drives the discussion forward and where a bank, especially a foreign bank, is on the losing side by definition.

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After this long qualified defense of Deutsche Bank, let me now turn to the specific question here. To be clear: I have no inside knowledge, I only work with what I have read in various media. My claim is also not that that’s what has happened, only that something like this could be behind it.

What I understand is this:

  • Kushner received a loan of about $285 million from Deutsche Bank shortly before the election.
  • There are indications that he needs such loans over the years to refinance old loans that mature, and that he has found it rather hard to obtain them.
  • In December 2016, Kushner met with Sergei Gorkov, the chairman of the state-owned Russian bank VEB. Accounts of why they met and what was talked about were inconsistent.
  • VEB is a sanctioned bank in the US. I am unsure as to what that means, but I assume that they cannot do business with US citizens or entities. So to a certain extent the meeting seems pointless for Kushner.

What I have read lately — this is from memory, and I am not as confident about the information as about that above — is this:

  • Deutsche Bank sold the loan off to VEB in some way.
  • There was a loan guarantee from VEB, presumably to Deutsche Bank.

Now, if Deutsche Bank sold the loan off shortly or immediately after it went to Kushner, the loan went effectively from VEB to Kushner. That’s my point about cashflows and credit risks. VEB pays the money to Kushner, though indirectly, and gets all the payments from him. If the cashflows are identical, in an economic sense, it is like VEB had given the loan to Kushner themselves. Deutsche Bank would only have brokered the loan and takes a fee as an intermediary.

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Is this illegal or otherwise illicit?

I have seen an outcry that Deutsche Bank has given loans to Kushner or also Trump. But I don’t see the point. It is legal to do that. If you otherwise defend the rule of law, it is incongruent if you postulate that no one must do business with presidential candidates and their families that you don’t like.

There was also a concerned question why Deutsche Bank would do it while American banks would not. As for Kushner, I think American banks have done it, too. There is a simple explanation, though: Deutsche Bank had a long-standing business relationship and hence access, and they probably offered a better deal than others. That is not illegal.

There was also bafflement why they would give a loan to a risky borrower. Doesn’t that show something is fishy? Riskiness means that a borrower has a high probability of defaulting on their obligations. But then you demand a risk premium for that, ie. higher interest payments to compensate you for taking the risk on. If you think it is adequate you make the deal.

That is normal business for a bank, nothing that should arouse suspicion in and of itself. It is entirely possible that Deutsche Bank gaged the risk as lower than other banks did, and so it looked attractive to them, while others were not interested. Such differences in opinion are what creates a market. And no, there is no reason to find it suspicious that a loan goes to a risky borrower. Think of payday loans that are probably much riskier. There is a huge market for “junk bonds” where issuers are often close to bankruptcy. It is simply not so that a bank would only do business with borrowers that never default, and if you see them do such a deal something has to be illicit.

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How about selling the loan to VEB? That would not be possible in the US, so their US branch could not do it because they are subject to US law. But Deutsche Bank might sell the loan off first to some party elsewhere, maybe a branch of theirs in a different jurisdiction. That should be legal. I have no idea how many countries have the same sanctions against VEB as the US, but perhaps not all of them. So in the next step, the loan would then be sold to VEB, which could be legal elsewhere.

That’s my point about the difference between the economic and legal points of view. If you look at the cashflows, it doesn’t matter, so it is always the same. But if the loan is sold off directly to VEB, that would be illegal in the US. With steps in between, it might be legal in all relevant jurisdictions. I am unsure whether this is possible, but it could be.

If you are able to prove that the US branch of Deutsche Bank knew that the loan would end up with VEB, they would probably be on the hook for evading sanctions. But it depends on how you interpret this. They might not know the big picture. They sell the loan off to some party not under sanctions, which is legal. And that party then would independently and unbeknownst to Deutsche Bank pass it on to VEB, which could also be legal in the relevant jurisdiction. Still, I would think that Deutsche Bank would remain involved in the technical side of the loan, how money is passed through and so forth, so they might still know about it and be on the hook.

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As an aside: It is conceivable that Deutsche Bank could broker a deal between Kushner and VEB and do so unwittingly. Here is how it could work: Kushner asks for a loan. They look into it, but don’t find it attractive. At about the same time, VEB or some go-between shows interest in buying loans. They specify that they are looking for something like $285 million with a risk in US real estate. They want it because it fits well in their portfolio.

Suddenly a loan to Kushner looks different to Deutsche Bank. They would not have to keep it on their books, but could immediately pass it on. They are only matching two sides that would otherwise not have found each other, bread and butter for a bank. What they might not know is that Kushner and VEB have perhaps arranged this coincidence in the background. However, once it is there, giving a loan to Kushner looks good because you only act as an intermediary, and so Deutsche Bank would do it.

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As I have explained in my post “Who has leverage over whom?” it is not true that VEB would have leverage over Kushner because of the loan. They might have leverage over him because Kushner wants more such loans. That might indeed have been the reason for the meeting with Gorkov in December 2016. Still I think the angle may be mistaken that this is about leverage in the first place. It is part of a framing where Trump is pressured into what he does. I have written about why I think this might be misleading in my post: “How to Handle Donald Trump.”

In the bleakest version this could be blackmail with a tape from the Ritz-Carlton in 2013. Here it would be by putting financial pressure directly on him and his family. But then it does not have to work this way. The loan might also be part of an ongoing business relationship with Russian entities. It would be something where Trump and his family obtain help, and there is an obligation to also help the other side in exchange, but not in a direct quid pro quo. The understanding could be very implicit. It does not have to be: “You only get the loan in return for some specific political move.” All that is needed would be that the two sides effectively honor some overarching quid pro quo over time, not at each step. “If we keep Putin happy with what he wants, our business relationship flourishes.”

Still, I see a problem here if the loan was sold off from Deutsche Bank to VEB, and that’s why I find it unlikely that it works this way. Kushner would make his payments to VEB, and that would be his counterparty. Maybe you could route it to some place other than Russia and through a go-between. But a direct connection would be either visible or could be established. If not for legal reasons already, this would be a disaster for political reasons because it means there is a connection between the Trump orbit and VEB, a state-owned Russian bank. In addition, the timing of the loan before the elections, and then the meeting with Gorkov in December 2016 would indicate some business relationship that is related to the loan.

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Now, there was this insinuation from Adam Schiff that also loan guarantees could play a role. I am unsure whether he said it was from VEB specifically. This might not have anything to do with the loan to Kushner, but it also might. Here is how it could work:

Deutsche Bank gives the loan to Kushner. They have it on their books. This part is only between Kushner and Deutsche Bank and perfectly legal. It has nothing to do with VEB.

Deutsche Bank might not sell the loan to VEB. It remains on their books. But what they could do is that they effectively sell the loan, but not in a technical sense. To this end, Deutsche Bank may create a bond that passes all payments from Kushner through to bondholders. You have the same cashflows only with opposite signs: one goes out to the bondsholders, and the other in from Kushner. The net effect for Deutsche Bank is zero. But the bond would be a bond by Deutsche Bank as the issuer. It has nothing to do with the loan apart from this coincidence.

The bond has about the value of the loan itself, not exactly, I will get to that in a moment. The US branch of Deutsche Bank could probably not sell it directly to VEB because of sanctions. But then some other branch in a different jurisdiction could issue the bond where it is legal to sell it to VEB. Otherwise, Deutsche Bank can sell the bond to VEB via some go-between. Since there is ostensibly no connection with the loan to Kushner, this would be rather innocuous.

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There is still a problem: If Kushner defaults, no or at least less money comes in while the bond has to be serviced as if Kushner paid. In that case, Deutsche Bank would be on the hook and make a loss. They still have the credit risk so far.

But then that’s where a loan guarantee from VEB would make sense. It could be a deal in some other jurisdiction where it is legal, or there might be a go-between, and at first glance it is unrelated to the bond. There is a relationship with Kushner, but not strictly with the loan. The guarantee could be triggered by any event where Kushner fails to honor an obligation. What it means is that VEB takes on the credit risk. If Kushner defaults, they would pay Deutsche Bank a sum that makes them whole for the shortfall. Deutsche Bank has no longer any skin in the game. Since the sum is what VEB still has to receive via the bond, it is a wash for them. They lose in case of a default, but that’s because it is now effectively their loan to Kushner.

All in all, Deutsche Bank has the loan to Kushner on its books, this is only a deal between the two, no connection with VEB. However, all payments are routed through to VEB via the bond. The net position for Deutsche Bank is zero. The credit risk is also passed on to VEB via the loan guarantee. Deutsche Bank are purely an intermediary now and would receive a fee for arranging the construct.

So in an economic sense, VEB has given a loan to Kushner: they pay the amount to him, get the payments, and have the credit risk. But technically, it is a series of independent deals that are all legal in the respective jurisdictions.

You can interpret it in either way: Everything is legal and there is no direct connection between Kushner and VEB, only one between him and Deutsche Bank and two others between Deutsche Bank and VEB. Or you can look at the whole package and its economic effect and view it as an evasion of sanctions, which would be illegal in the US. Unless you can see all the parts, it is not possible to make the connection, though.

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And that could be what the different clues might point to: Subpoenas for business between Trump associates and Deutsche Bank as well as Adam Schiff’s insinuation that a loan guarantees might play a role.

It would also make sense of Donald Trump’s extreme nervousness that scrutinizing his business dealings and those of his associates constitutes a red line. Of course, it would! Because this would lead to a “smoking gun”: His family doing business with a state-run bank in Russia as well as having ongoing negotiations before and after the election about it.

With so little information, this all is pure speculation. There are many other ways how the pieces could fit together. And there is no reason to assume that they could not also be independent. However, that is the best sense I could make of all this. And it makes a lot of sense. But then to repeat myself: It is a speculation that can easily be wrong.

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In the first version I wrote that Adam Schiff had said that VEB had given a loan guarantee. I am unsure as to what he said, I saw it on some program. It could only be that he said that loan guarantees in general played a role. That’s why I have toned this part down.