Currently the fate of Deutsche Bank is the most discussed topic in the financial markets. The stock price is rumor-driven, the most recent of which were unsubstantiated rumors of a settlement with the Justice Department that drove the stock up 14% last Friday. As it turns out, the bank has not yet initiated face-to-face settlement discussions.

The gyrations of this stock are like the exaggerated “wobbles” of a spinning top right before it drops the floor (or table-top). Make no mistake, DB will collapse absent a bailout by the German Government – likely in collusion with the Fed, ECB and BoE – or a bail-in by creditors, including depositors.

The cost to buy credit protection on DB’s junior debt moved up to a new record high today. Certainly the OTC derivatives market is not convinced that DB CEO, John Cryan, is being forthright in his pleas to the market proclaiming that everything is under control. Judging from the timing of similar remarks make by Bernanke in reference to the mortgage market and by the CEO’s of Bear Stearns and Lehman, DB could be just a few months away from total collapse.

I wanted to share my comments on DB that I included in my weekly Short Seller’s Journal, released last night:

On Thursday last week, DB hit another new all-time low – $11.19 – intra-day Thusday. It closed that day at $11.48, another new all-time low close. Miraculously, a new rumor hit the tape on Friday in which a French media organization tweeted out that the Justice Department and DB agreed to settle the $14 billion mortgage fraud fine levied earlier this month for $5.4 billion. The stock shot up in frenzied short-covering to close @13.09, up 14% from Thursday’s all-time low close. Of course, the French news source back-pedaled away from the certainty of its tweet later in the day.

The false rumors are intentionally dropped on the market to incite hedge fund short-covering. There is still a lot of “big money” trapped in big positions in DB stock. The short-covering activity creates a bid into which insiders and those connected to insiders can unload big positions. Over 70 million shares traded on Friday. This was 3.5x the 10-day average daily volume of 21.8mm shares per day and more than 10x the 90-day average volume of 6.9mm shares per day. In other words, Friday’s activity enabled a lot “trapped” longs to move closer to the exit (unload their positions).

A much better indicator of what’s going on “behind the curtain” at Deutsche Bank is the report that several hedge fund clients of DB’s withdrew any excess cash held in custody at the banks. This fact was confirmed by the CEO. The other indicator is the cost in the derivatives market to buy default insurance on DB’s bonds. On Friday – even after the French media rumor was floated – the cost buy 1 year default protection on DB’s junior bonds soared to over 600 basis points. To put the cost of this in context, the 1-yr rate on U.S. Treasury bonds is 59 basis points (0.59%).

In terms of U.S. Corporate bonds, any company that has to pay 6% to borrow money for one year is likely headed toward bankruptcy. Think about the rate you are paying on your auto loan, if you have one. It’s probably in the 2-4% range. The derivatives market has determined that lending money to Deutsche Bank is riskier than lending money to you…

Turkey is not taking over DB and DB was technically insolvent before the Justice Department threw a $14 billion mortgage fraud fine at the bank. Too be sure, if a settlement is announced, I recommend shorting DB after waiting for DB to spike up on that announcement. Too be sure, eventually the German Government, likely in conjunction with the ECB and the Fed, will be forced to bailout DB.  DB’s derivatives holdings alone are several times larger than Germany’s GDP.  And that’s the liabilities that are visible.  I can guarantee that, having worked on a trading desk that often hid positions from internal regulators using derivatives, that DB has a lot of unknown skeletons in the closet.  I guarantee that.

This up/down rumor-driven trading in DB stock is exactly like the trading that occurred in Enron and Bear Stearns. I shorted Enron in the $40’s and covered it at $12. I covered too soon obviously because of spike-ups on rumors that occurred as the stock approached $10. Same with Bear Stearns, which I shorted in the $20’s. If/when a bailout occurs, it won’t happen until DB stock is well below $10 if not $5.

As for the hidden skeletons lurking underneath DB’s published financial statements, here’s another one that popped out and it’s just the tip of the iceberg:  Deutsche Bank Charged Over Paschi Accounts As Legal Hits Mount – Bloomberg.   If you read the article, you’ll note that Monte Paschi used derivatives trades with Deutsche Bank to hide losses from previous derivatives trades that DB stuffed into the Italian bank.   This is exactly the type of activity I witnessed going on at Bankers Trust before DB bought BT.   Then DB took the same operational algorithm and increased the use of it exponentially.

If you bank with Deutsche Bank, you need to get all of your cash out of any accounts there immediately – unless you don’t care about money.   In fact, other than loans you have from Deutsche Bank, I would close any accounts you have with the bank, including and especially any assets held with its wealth management group.

There will be no justice served to the people who made $100’s of millions in compensation from DB (see disgraced former CEO, Anshu Jain) through fraud – fraud which has and will result in $100’s of billions of wealth destruction.  But you still have time to step-aside and watch the fireworks show from the sidelines.