Later this month the Spanish government’s Fund for the Orderly Restructuring of the Banking Sector (Frob) will inject a total of €1.865 billion, funded through the European Stability Mechanism, to recapitalize the four remaining Spanish banks – Liberbank, Caja3, Banco Mare Nostrum and Banco CEISS – whose restructuring was agreed in a memorandum of understanding between the Spanish authorities and the European Commission signed last July.
The much larger exercise to recapitalize four institutions already owned by the Frob – BFA-Bankia, NCG Banco, Catalunya Banc and Banco de Valencia – for a combined €37 billion was completed in the last days of 2012.
Now, as auditors sign off on these eight banks’ results for 2012, holders of their preference shares and subordinated liabilities will brace themselves for the final losses they must accept on these instruments, an average of 40%. Holders will be granted new shares in the restructured banks as partial compensation.
The most troublesome non-performing real estate loans and property assets of the eight restructured banks will now be managed down by Spain’s bad bank, Sociedad de Gestión de Activos procedentes de la Reestructuración Bancaria (Sareb). Rather than being forced to liquidate these assets at fire-sale prices, Sareb will have the luxury of time – up to 15 years – to maximize recovery values, in what the authorities hope will be an economic recovery.
The final bill for recapitalizing the most damaged Spanish banks, for which it was agreed a maximum of €100 billion in EU support could be made available last summer and which Oliver Wyman’s stress tests set as €55.9 billion in the autumn, now looks likely to come in at closer to €40 billion. In large part, that reduction is thanks to €12 billion of burden sharing imposed on mainly institutional holders of preference shares and subordinated debt.
"Of course the ultimate objective is not to have a state-owned banking system and the Frob must sell most of the restructured banks," says a senior official at the Bank of Spain. "But we have some time to achieve that. The timetable is five years."
The restructuring of Spanish banks has played out against a backdrop of redoubling of European political will to sustain the single currency. Foreign investors turned net buyers of Spanish government debt in the second half of 2012, having been big sellers in the first half. Spreads over 10-year German government bonds that had been as high as 630 basis points last summer were down to 350bp in January. Spanish banks’ reliance on European Central Bank financing ticked down last November and some have returned to the wholesale capital markets with new issues of senior unsecured bonds this year.
It might be a little early, however, to describe the Spanish banking system as restored to health. The banks subject to restructuring must shrink their balance sheets. The Bank of Spain source says: "Over time we want their loan to deposit ratios to come down towards 100%."
Analysts at Citigroup note that the ratio of loans to deposits across the Spanish banking sector was still running at 188% late last year. The Bank of Spain has recently been imposing a cap on rates as a new deposit war threatened to break out in January; analysts worry that this might prompt an outflow into other yielding assets or at least a flight to the strongest banks. The Citi analysts ask: "If banks are offering the same rates, why should a client remain with an institution considered weak? Banks regarded as safe havens (ie, Santander, BBVA) should benefit from deposit inflows from competitors given the same yield on products."
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| Luis Linde, governor of the Bank of Spain |
At UBS, banks analyst John-Paul Crutchley worries about the likelihood of continuing recession in 2013 piling up new burdens of non-performing loans at Spanish banks beyond the obviously distressed real estate portfolios. "While immediate capital shortfalls will indeed have been addressed, we do not believe that the system will be positioned to lend over the next several years without significant further restructuring across capital, structure and funding." He says that: "Spain seems to be embedding a weak credit environment for the next several years", and that the credit crunch there could even intensify. Given low profitability at the banks and worries about rising bad loans in an economy that the OECD forecasts will shrink by 1.4% in 2013, Spanish banks’ capital levels do not look so compellingly high that they might ensure continued access to the market funding required by those high loan-to-deposit ratios. Luis Linde, governor of the Bank of Spain, did not seem to place much reliance on the insights of institutional investors and their dependability in his most recent speech at a seminar in Chile. "Investors tend to ride the waves of sentiment, reacting only – but dramatically – when weaknesses become evident. In this way, they act procyclically, inducing large swings in capital flows."
Central bank officials hope the economy will stabilize in the second half of this year, before SME and residential mortgage non-performing loans become a big worry and renewed weakness at Spanish banks becomes evident.
