Spain's bad bank: Better late than never

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Spain should have established a bad bank long ago.

During a trip to Spain in November last year Euromoney found intense hostility among financiers in Madrid to the idea of a bad bank along the lines of Ireland’s National Asset Management Agency. Most believed that Nama had destroyed the Irish banking system, forcing the nationalization of virtually the entire sector. They also argued that the banks simply could not take the hit that transferring assets at fair value would entail. Fast forward seven months and they can only dream that those asset values would be anything like as good as they were then. Fast forward seven months and the concept of a bad bank is also no longer a political football that is being kicked around immediately prior to an election; it is a looming reality – finally mandated as part of the EU’s recapitalization of Spain’s banking sector.

It is regrettably little surprise that it has taken so long for Spain to initiate its bad bank. But a cursory glance at the distressed debt levels among its banks at any stage over the past few years would have made it clear that the country could not extricate itself from its real estate problem without one. As one distressed debt expert told this magazine last November: the cost of a bad bank to the system might be high but the expense of having these assets stuck on the books of an institution is higher.

And so it has proven. Recent figures released by Spain’s central bank show that bad debts as a proportion of total lending in Spain rose to 8.95% in May, up from 8.72% in April. Lending and deposits in Spain’s banking system have also deteriorated, with deposits down 5.75% year on year in May and lending down 3.82% for the same period. When consultants Oliver Wyman and Roland Berger released the results of their recent stress tests on Spain’s banks, the forecast was for expected losses in a worst-case scenario to run to €250 billion to €270 billion. However, the pace of deterioration is such that the auditors’ analysis of the banks, which is now due in September, might indicate a sharp increase in non-performing loan estimates on those that even the consultants used.

Under the terms of its bank recapitalization, Spain is due to have a bad bank up and running by November this year. It will cover loans related to real estate development and foreclosed assets, with transfers taking place at the real long-term economic value of the assets. The concerns expressed to Euromoney in Madrid last year are to be taken seriously – for an alarming number of these assets this figure could be zero. As Nomura analysts recently pointed out, 90% of the €8 billion asset sales so far approved by Nama refer to assets located outside Ireland. Not surprisingly it sold the good stuff first, and is now faced with the tougher task of trying to dispose of domestic assets in a deteriorating market. Nevertheless, Nama is expected to break even in 2020.

Spain’s bad bank faces a far tougher task. It is likely to have a high concentration of assets in regional domestic markets for which there will be very little demand – even if these assets are transferred at their true value. And the hit to the banking sector from crystallizing these losses will strain even the €100 billion recapitalization agreed with the EU.