Italian banks are back in the spotlight. After MPS failed to raise enough capital from private investors earlier this year, the centre stage has moved from Tuscany to the region of Veneto, in the Italian north-east. We have met the main characters previously: Banco Popolare di Vicenza (BPVI) and Veneto Banca were among the Italian banks that failed the ECB’s comprehensive assessment in 2014. They were also in the spotlight last year, when the bank-funded Atlante fund was created, mostly to become the underwriter of last resort in their (otherwise unlikely) capital raise.
If we look at the data, things are definitely not looking good. BPVI published its 2016 accounts this week, closing with a € 1.9 billion loss. Veneto Banca postponed the publication of its account, but it is expected to report a loss of about € 1 billion. Earlier this month, both banks asked access to precautionary recapitalisation, like the one currently discussed for Monte dei Paschi di Siena.
Gross NPLs for BPVI were € 9.8 billion in 2016, up 9.3% from last year. € 5.1 billion of these NPLs are classified as bad debts, up 17% year-on-year. BPVI says in its press release that it has received a draft communication from the ECB, following up on a previous inspection and requiring actions to address identified shortcomings. BPVI says this will entail a conservative revision of its credit risk policy, which will presumably determine further negative impact on its 2017 financial position. The current CET1 ratio stands at 8.21% - above the minimum requirement but below the SREP target of 10.25%.
What is more worrying is the bank’s liquidity position. The bank’s direct funding was down 14.4% with respect to last year, with BPVI attributing the drop to “reputational issues” and “fear of bail-in”. The bank resorted to ECB liquidity - for a total that currently stands at € 6.4 billion - and to the emission of government-guaranteed securities worth € 3 billion. The liquidity outflow has been hemorrhagic: BPVI’s liquidity coverage ratio at the end of December 2016 was 37.9%, down from 113% in June. Without the emission of the government-guaranteed securities mentioned above, the liquidity ratio would have been below the 90% minimum requirement for 2017.
This precarious liquidity situation could complicate the discussion on precautionary recap - which first needs to be authorised by the European Commission. If the precautionary recap were to be granted, it would most likely entail the bail-in of junior debt, which reportedly amounts to € 547 million for BPVI and € 750 million for Veneto. If the experience of MPS is of any guidance, we should expect this issue to become very controversial soon. Meanwhile, the two banks are also under pressure from legal actions of the shareholders that have been diluted, and they have been trying to limit the damage by offering to reimburse part of the share value in exchange for the beneficiaries to renounce legal actions.
To know more about the future of the two Veneto banks, we will have to wait for the decision by the European Commission, but some things can be said already. The story of these two banks epitomises the strategy of delayed reform that has been so characteristic of the Italian banking crisis, where actions that should have been taken earlier are now becoming unavoidable, in a regulatory context that has grown more demanding in the meantime, especially when it comes to using public money.
It also shows how delusional the great expectations placed on the Atlante fund were. When the fund was launched last year, it was largely depicted as a private backstop mechanism intended to shore up confidence in the Italian banking system. As I discussed at the time, the initiative stemmed from fears of systemic implications if BPVI and Veneto failed to raise enough capital, and it was expected to reduce systemic risk by avoiding fears of a domino effect due to difficulties of individual banks. However, the structure of the fund suggested otherwise. The fund was mostly financed by Italian banks: by acting as an underwriter of last resort for the two banks that were too weak to raise capital on the market, the fund effectively prevented bank resolution in the short run, but it did so by spreading the risk onto the balance sheets of the rest of the banking system.
After it became the majority shareholder (with a share of around 90%) of two regional banks, which now see precautionary recapitalisation with public funds as the “most realistic” recap option, this expectation seems overly optimistic. Giuseppe Guzzetti, one of the minds behind Atlante, said at the end of last year that he regretted participating in the venture. Perhaps more importantly, the fact that participating banks have been making significant write-down to the values of their investment in Atlante signals a lack of trust in the success of the operation.