What Goes Up……….

Spain’s troubled banking sector is back in the news again. Despite the apparently succesful stress tests carried out over the summer problems persist, and don’t seem likely to go away soon. Foremost among these is the steady rise in problem loans which have now risen to an all-time high, potentially endangering the credit rating of the country’s financial institutions, according to a recent report from the credit ratings agency Moody’s.

In fact distressed loans in Spain’s banking system reached 102.5 billion euros as of August, according to the latest Bank of Spain data. At 5.6% of the total this is the highest proportion of overall loans since 1996. “The performance of the commercial real estate sector has been the main driver of overall asset quality deterioration,” Moody’s said in their report. Evidently asset quality deterioration in Spain’s banking system is likely to continue both this year and next, driven by oversupply in the property market, the impact of the real estate crisis on the larger economy, and the continuing high unemployment levels.

The warning about the potential impact of the continuing rise of so called “non-performing” loans has also been reiterated by the Bank of Spain itself, who draw attention, in their latest Financial Stability Report, to the fact that the banking system is very likely to face a further increase in problem loan ratios in coming quarters, an admission which effectively constitutes a revision of last April’s IMF forecast that such loans would peak in the third quarter of 2010. Unfortunately the number of distressed loans continues to rise, and the end of the problem is not yet in sight.

Indeed the latest Moody’s report comes at a time of growing uncertainty for the sector, with Spain’s two largest banks – Banco Santander and Banco Bilbao Vizcaya Argentaria – both releasing earnings results which disappointed the markets and gave evidence of the significant pressure they have on their margins. A further indication of the pressure they are under can be found in the fact that they have publicly attacked the slow pace of reform among the savings banks, arguing that these are using the billions of euros from the public restructuring funds to compete unfairly by offering uncompetitive rates to attract deposits. Cajas are offering rates of up to 4.75% in order to build their deposit base, which they urgently need to do given the difficulties they have attracting finance in the wholesale money markets. The large banks argue that such campaigns are bound to generate losses in the longer term and that such behaviour is unacceptable for institutions receiving public aid.

Emilio Botín, Santander’s chairman, was first out of the box with a speech to business leaders which criticised the “inadequate” speed of restructuring at the cajas and called for more concrete plans to cut capacity and improve margins. Then Angel Cano, chief executive of BBVA, added his voice calling for a speedy completion of the restructuring process so that bankers could begin 2011 “with equal conditions and on a level playing field”.

In another sign of the pressure they are under Spain’s banks are starting to sell-off some off their most valuable branches. One popular way of doing this is to sell them and then lease them back again, a move which allows them to record a short-term transaction gain, one which can then be used to absorb and conceal losses sustained in their mortgage loan book.

According to an analysis carried out by the Wall Street Journal BBVA is about to register a gain of €233 million on a sale and leaseback of offices and buildings to a real-estate investment consortium led by Deutsche Bank AG’s RREEF. The proceeds will then surely go directly toward into the bank’s provisions against bad loans. Banco Sabadell also completed a similar €403 million deal in May, in which it sold and rented back 378 offices and other properties. And Caja Madrid, one of the country’s largest savings banks, is reportedly looking at similar deals, following its own branch sales last year and a separate €108 million, 30-year sale-and-leaseback agreement with a unit of the German fund S.E.B. Asset Management AG in May. According to the WSJ Caja Madrid is currently in talks with investors to sell a somewhat larger package of branches, valued at €300 million, according to a spokesman for the savings bank.

And a further sign that all is not well – the banks are still having difficulty issuing covered bonds, with Spain’s domestic banks currently paying a full two percentage points above the bank borrowing benchmark, as compared with a mere 0.20 percentage points before the European sovereign debt crisis erupted, according to Barclays Capital analysts Carlos Cobo Catena and Tom Rayner.

This difficulty is underlined by the evident fact that Spanish banks are falling behind their counterparts across Europe in reducing their dependence on emergency central bank funding. While Euro Area banks cut their collective borrowing in September to 514.1 billion euros, the least since the Lehman Brothers collapse in September 2008, Spain’s banks continued to borrow 97.7 billion euros, still well above the 85.6 billion euros they borrowed in May this year, just before the debt crisis broke out.

With the Bank of Spain pressuring them to increase their provisioning for properties held on their books, the banks have been vigorously attempting to move it off them, often promoting attractive property deals on their websites, and in some cases even offering 100% financing and other deals on mortgages in an effort to sell their growing mountain of real estate, which normally comes to them through debt for asset swaps or foreclosure. But, with the sales market sluggish to virtually non-existent, banks are increasingly looking towards renting a part of their empty stock, on occassion transferring the targeted property directly from the developer to one of their off-balance-sheet subsidiaries. Banks aren’t required to set aside as many provisions for assets which carry a rental stream, and none at all for assets they do not formally own.

The absence of a liquid market in Spanish housing is causing more and more problems. Before the crisis set in, homeowners who found themselves in financial difficulties had, for example, been able to sell their houses relatively easily, repay their outstanding debts, and start all over again. However, times have now changed, selling the property at a price which lets them clear the mortgage is increasingly difficult, and the banks, under pressure from their bottom line, are increasingly resorting to mortgage foreclosure. “Although lenders have historically not particularly liked extra judicial enforcement, it has become a solution among Spanish lenders in areas where the courts are saturated by cases and the foreclosure of a property may prove more speedy than the traditional enforcement procedure” says Alberto Barbachano, a Moody’s Vice President and author of a recent report on the subject.

The volume of Spanish foreclosed mortgages that were taken to court grew by 126% in 2008 and 59% in 2009 on a year-on-year basis. In the first three months of 2010, 27,561 mortgages were foreclosed, a record since the economic downturn started in 2007.

In fact Moody’s argue that the very high reported number of foreclosed mortgages that have been taken to court in Spain since 2007 underestimates the actual number of properties that have been repossessed by Spanish financial entities for two reasons. First, because more than one property may have been involved per individual foreclosure process. And second, because Spanish mortgage lenders have generally become more willing to sign up to voluntary agreements, accepting the property as payment in kind and then releasing the debtor from the debt.

At the present time the consumer protection organisation Adicae estimate that 1.4 million Spaniards are facing potential foreclosure proceedings, and the number is likely to continue to rise in the months to come. A recent Standard & Poor’s report found that 8 percent of Spain’s housing is now worth less than the value of the mortgage, and with prices continuing to fall, and some experts believe that figure could rise to 20 percent before the price contraction is over. So with unemployment, problem loans, and property foreclosures all rising, the only thing that seems to be falling steadily towards earth is the level of bank profitability. It is only to be hoped that with their untimely descent Spain’s banks don’t bring the whole edifice of Spanish economic activity (and with it the institutional structure of the Eurozone) crashing down behind them.

This entry was posted in A Fistful Of Euros, Economics: Country briefings by Edward Hugh. Bookmark the permalink.

About Edward Hugh

Edward 'the bonobo is a Catalan economist of British extraction. After being born, brought-up and educated in the United Kingdom, Edward subsequently settled in Barcelona where he has now lived for over 15 years. As a consequence Edward considers himself to be "Catalan by adoption". He has also to some extent been "adopted by Catalonia", since throughout the current economic crisis he has been a constant voice on TV, radio and in the press arguing in favor of the need for some kind of internal devaluation if Spain wants to stay inside the Euro. By inclination he is a macro economist, but his obsession with trying to understand the economic impact of demographic changes has often taken him far from home, off and away from the more tranquil and placid pastures of the dismal science, into the bracken and thicket of demography, anthropology, biology, sociology and systems theory. All of which has lead him to ask himself whether Thomas Wolfe was not in fact right when he asserted that the fact of the matter is "you can never go home again".

6 thoughts on “What Goes Up……….

  1. It’s funny how there isn’t any comparison with other countries banking situation in this article. Probably because the picture would not hold. Distressed loans in Spain are at their highest rate in ten years, it is true; the same happens in every other country in europe (remember there is an international crisis?) . The difference is that distressed loans proportion is lower in Spain than in France, Germany, Italy, UK, Holland… It is the higher it has been here in ten years only because it has been very low here in those ten years.

    Spanish banks have ranked among the soundest in the recent european tests. Spain was the country that put forward more of its system to be evalued. No need to hide anything. The strongest bank in europe was a little known bank from the balearic islands, Banca March, and the two strongest from the largest banks in europe where the two biggest banks in Spain, Santander and BBVA. Santander has just this week announced that this year it will have 9 billion euros profit; please compare that with other european banks. By the way Santander gets 80% of its profits from outside of Spain, Uk is now a bigger source of profits to Santander than Spain.

    Regarding high unemployment it is very curious that no one ever mentions that right now there is a higher proportion of people over 16 years of age with a job in Spain than there were ten years ago… despite the unemployment rate being double what it was then. How is this? Well ten years ago only 53% of the people over 16 were considered ‘active’ for the job market, now it is 60% of those over 16. In these ten years the population over 16 has grown by 4 million while the ‘active’ population has grown by 5 million. This means there are less retirees and less students, in proportion, while immigration has brought millions of young healthy workers. There is, despite the hike in unemployment 2.5 million more people working than there were then and, I repeat, more percentage of people over 16 working today than ten years ago:


    How contradictory is Edward when he says that banks are selling “their valuable offices and buildings” for a profit and then he says that banks are loading their balances with worthless real state. Let us be clear, does real state have a value or doesn’t it? If they are worthless you should check out those German funds and investors that are buying; and if there is value in real state you should welcome it to the balance of the banks that are adding it to their books.

    What Edwards calls a “sluggish to non existent sales market” is one that moved 500.000 properties in the last 12 months. Well in line with any other market in europe for a country of our population. Demand has been higher than production in the last 18 months, so the “backbook” has been reduced for the first time in ten years.

    Everybody knows that prices of property in Spain have risen very fast in the last fifteen years. See the graph below:


    One has to be very ignorant, and not understand the exponential function, to believe that there is any chance for 20% of mortgages to be below water with such a growth of prices. Only those that bought after 2008, and among them those that had a high leverage mortgage would be below water and certainly 20% of all mortgages were not given after Lehman collapse. The rest have had years of repayments and years of prices rising to be safe in the knowledge that their home is worth more than their debts.

    What is only a matter of time, that no expert is able to predict, is when will Edward implode in pessimism and disappear for ever, but no one with a thread of rationality doubts it will happen.

  2. “Let us be clear, does real state have a value or doesn’t it?”

    Maybe that depends if it is in Spain or in Central London or New York.

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  4. How immensely hilarious, after reading this article, is the news that the largest retail bank in the UK and fourth largest by market price in europe (Lloyds Group) poaches his Chief Executive from an Spanish bank (Santander). And…. the market welcomes the news with a 3% rise in its shares. Ha, ha, ha,….

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  6. Jeronimo, Can you please, tell us, wich marvelous sounding Spanish bank do you work for?

    But you know what? I can bet that you wear a red tie.

    Well you are contradictory by pointing out that 80% of SAN profit comes from outside Spain… Do they have the 80% of offices/accounts/mortages/whatsoever overseas? LOL!!!

    Let me quote you:

    “Uk is now a bigger source of profits to Santander than Spain.”, Sure, they should be offsetting Spanish market real losses…while tricking all they can to achieve their capital needs.

    For you it’s clear what is important, obviously the bank but never the country, well done, well done.

    When you compare unenployment statistics you are intentionally mixing up the things, different statistic procedures can’t be compared. 10 years ago there was not so much make up with that, so please don’t come with phony figures. Maybe 4,5 million unemployed people it’s not very much for you, but this will end up like you already know, more and more foreclosures and broke business.

    And yes they are selling valuable properties and getting back worthless second low quality houses, try to convince me about what worths more, one apartment in the coast of Torrevieja falling 50% in 2 years or the Santander Financial City in Boadilla? or a branch in La Castellana? (Madrid most expensive area)

    When you say that the market is moving half a million properties you should clarify that and tell us if that includes the foreclosures included as housing transactions. Don’t bother replying, they are…

    I don’t argue that this problem is all over the western world, but in Spain I don’t see the way out that’s the real pain for us, no way out of the black hole gravity that are our political/financial institutions.

    About LLoyds. probably the portugese guy is smart enough to change the horse in the river and fled away. Anyway that’s a UK issue and the 3% stock rise its about the boy, not about his boss. We will be able to check that in the very next future with Mrs. performance results.

    Edward, sadly this is so true,

    “It is only to be hoped that with their untimely descent Spain’s banks don’t bring the whole edifice of Spanish economic activity (and with it the institutional structure of the Eurozone) crashing down behind them.”

    Ha, Ha, Ha, Jeronimo, are you proud? of what?

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