All hail the Spanish central bank’s long-awaited changes to the way banks provision for loan losses.
The proposed amendments are available on the Bank of Spain’s website, in Spanish.
Luckily Nomura’s Daragh Quinn has a handy English summary, laid out below:
1) Faster provisioning calendar. Currently [non-performing loans] NPLs are fully provisioned between a period of 2 to 6 years (depending on the type of loan and collateral). The central bank is now proposing that there be a uniform provisioning calendar whereby all NPLs would be fully provisioned after 1 year (25% up to 6 months, 50% between 6 and 9 months, 75% between 9 and 12, and 100% over 12 months).
2) Incorporating the value of collateral. However, the central bank also plans to modify the current situation whereby NPLs are provisioned 100% regardless of the value of the collateral. Therefore, the value of the assets will be used to offset the amount of provisions required, although applying different haircuts depending on the type of asset (1st residences will see a 20% haircut, offices/industrial 30% haircut, finished houses 40% and undeveloped land/other 50% haircut). An example would be a defaulted primary residence mortgage loan of EUR 100,000 with a loan-to-value of EUR 70,000, the bank would have to provision EUR 44,000 within 12 months. However, if the collateral was undeveloped land the amount of provision required would rise to EUR 65,000
3) Increased provisions on acquired assets. The amount of provisions on recovered or acquired real estate assets will rise to 30% if these assets are held for more than 2 yrs. We believe this is particularly significant for the savings banks, where a significant amount of real estate assets have been accumulated and the level of provision would still be relatively low. For the moment this would have no impact on Santander, BBVA or Banesto as they all have raised the provision on these assets to +30%. Sabadell and Popular in particular though will need to generate capital gains to offset this additional provision or face a material reduction in pre-tax profit this year (However, we would note that Sabadell has already generated over EUR 300m through a recent sale and lease back and debt swap transaction).
The second point, though not as significant as the third, is an interesting one. One of the criticisms of the Bank of Spain’s current provision rules has been that they are, in some ways, actually quite stringent.
By requiring banks to book NPLs that lack collateral at a 100 per cent loss (in contrast to Europe or the US, where banks only have to provision for the portion of the NPL that isn’t expected to be recovered), it was thought Spanish banks might be discouraged from recognising NPLs. Hence the plethora of loan modifications and novations.
Back to the third point.
The Bank of Spain says it expects a 2 per cent increase in provisions for 2010 as a result of the changes, and a 10 per cent drop in pretax profit for the sector. But, it says, there’s a rather wide variation between Spanish banks.
Nomura’s Quinn thinks Spanish banking giants BBVA and Santander will be the least affected by the changes, on the basis of their existing provisions and geographic diversification away from Spain, followed by Banesto and Bankinter and then Popular and Sabadell.
But, he says, the biggest impact will be on Spain’s already troubled savings banks, the cajas.
Check out Quinn’s numbers:
Those figures are based on 2009 data and ignore existing NPL levels and coverage rations, which would vary considerably, but they should give you some idea of the potential impact of these changes. CajaSur, for instance, has an estimated acquired real estate exposure that’s over four times the size of its shareholders’ equity.
Lucky then, that it’s already in the midst of a restructuring, as are most of the cajas.
Related links:
Spanish banking crises, then and now – FT Alphaville
Provisioning for losses the Spanish way – FT Alphaville
BBVA, an exercise in Spanish banking losses – FT Alphaville
Spanish catastrophe, otro datapoint del dia – FT Alphaville