Bad debt reduction offers a silver lining to ailing banking sector in Europe


Through Samantha barnes, International banker

It has not been the easiest time for European lenders. A low interest rate environment in the region has severely affected the profitability of many banks and, in an increasing number of cases, they are forced to pass this burden on to customers by charging negative rates on corporate savings. and household deposits. Indeed, a Deutsche Bundesbank survey in November found that nearly 60% of German banks charge negative interest rates on deposits from their corporate clients, and 20% of banks do the same for retail clients.

But one of the few glimmers of hope for European lenders during this period has been the reduction of bad loans, which are at their lowest level since the financial crisis. Indeed, the pile of toxic debt that remains on the balance sheets of European Union (EU) banks has been halved over the past four years, according to November data from the European Banking Authority (EBA), which examined a sample of 150 EU. banks representing more than 80 percent of the sector’s total assets. Non-performing loans (NPLs) across the EU are now recorded at € 636 billion, or 3.1% of total loans, which is significantly lower than the € 1.15 trillion recorded in June 2015 (i.e. 6% of total EU loans at the time).

This reduction can be largely attributed to regulators and various governments, both of whom have worked hard to take measures that in many cases have eased the burden of bad loans that have weighed heavily on banks’ balance sheets for much. of the decade. As the EBA notes, the improvement was precipitated by “the attention of the supervisors and the political determination to effectively tackle the problem of NPLs, coupled with the efforts of banks to improve their capacity to manage NPLs” . Additional support has also taken the form of “positive economic growth, low interest rates and falling unemployment,” notes the EBA, while also warning that bad debt stocks still remain high in the country. some countries, notably Greece and Cyprus.

The nations of southern Europe have been the most active reformers across the bloc. Between December 2014 and June 2019, Cyprus achieved the largest reduction of all, registering a 29.3% drop in its NPL ratio to 21.5%, followed by Portugal and Italy, both of which succeeded. a reduction from 9.1% to 8.9% and 7.9% respectively. . At the same time, Cyprus NPL coverage rate increased by 15.2% to 45.9%. In June, only Greece and Cyprus had double-digit NPL ratios – 39.2% and 21.5% respectively – against 10 EU countries in this bracket in 2015. Portugal and Italy are in third place. and fourth place, while Bulgaria, Croatia and Hungary and Slovenia round off the other countries with ratios above 5.0 percent.

“There are important initiatives underway which aim to further stimulate the downsizing of existing assets both {at} European level and in specific countries,” said the EBA. In many cases, it was government assistance that was at the heart of these accelerated reductions. Cyprus, for example, has managed to significantly reduce its NPLs mainly through a major restructuring of its banking sector. In June, the government promulgated its Estia program, which aims to strengthen the ability of borrowers to repay their mortgages rather than default, with the government subsidizing part of the repayment amount of the restructured loan.

Italy, which is among the worst in Europe for distressed loans, has also benefited from government support. According to S&P Global Ratings, the country’s non-performing exposures fell from just under € 350 billion in 2015 to around € 150 billion at the end of the second quarter of 2019. Much of this loss can be attributed to the securitization of bad loans, whereby Italian banks repackaged their debt and sold it to investors. Following extensive pressure from Italian regulators, loans representing more than a third of the outstanding amount were sold as part of securitization transactions, mainly through the CAGS guarantee system introduced by the Italian government in 2016 , which was recently renewed until May 2021. The system allows banks to obtain a government guarantee to support the less risky parts of the repackaged debt, which in turn strengthens the debt profile for buyers potentials.

Indeed, the CAGS was so successful that it was adopted by another troubled European banking system. Greece’s Hercules asset protection system also allows the government to buy certain segments of distressed debt that the country’s lenders aim to sell to investors. After securing EU approval to establish such a plan in October, George Zavvos, Greece’s deputy finance minister, estimates that Hercules will help cut NPLs by up to € 30 billion, or 40% of the total outstanding. . The European Commission (EC) backed the plan, saying it was “free from any state aid”.

Elsewhere, Ireland has been among the most active sellers of bad loans this year. Irish banks have managed to drastically reduce their toxic debt in recent years, following the country’s disastrous property crash ten years ago. “Improving market conditions and regulatory changes,” according to S&P Global Ratings, are encouraging Irish banks in their efforts to sell much of their bad debt, mainly to non-bank entities, and thereby restructure their balance sheets. By July, lenders operating in the country had sold 6.2 billion euros in loans and, between December 2014 and June 2019, Ireland’s non-repayable loan coverage ratio had fallen from 15.5% to 27.2%.

The 71% state-owned AIB (Allied Irish Banks) agreed in April to offload a tranche of loans to distressed US debt giant Cerberus Capital Management, originally valued at $ 3 billion. euros. Covering more than 1,000 clients and 2,800 assets, the NPLs were finally sold to the Cerberus subsidiary Everyday Finance for 850 million euros. AIB managed to reduce its total NPL from 31 billion euros in 2013 to less than 5 billion euros in July 2019. The Dutch lender Rabobank, meanwhile, sold the balance of the loan portfolio of its subsidiary ACC Bank, initially valued at more than 3 billion euros, to buyers including Goldman Sachs, distressed debt firm CarVal Investors and debt collection firm Cadot for a total of 800 million euros. And the Ulster Bank of the Royal Bank of Scotland group also announced the sale of its non-performing mortgage portfolio of 800 million euros of home loans and properties for rent to the US fund CarVal Investors. The portfolio is said to be linked to more than 3,000 mortgages, with 40% of loans soured for more than seven years.

But while some believe that the improvement in bad debts points to an overall recovery for European lenders, the EBA says the opposite. In a November survey of 131 EU banks, EBA found that the profitability of the sector fell to 7% on average over the 12 months ending in late June. This is 0.2 percent lower than a year earlier. “There are hardly any clear catalysts for improved bank profitability on the horizon. It is rather the reverse, ”warned the ABE. “While low rates can be favorable when it comes to market-based funding costs and new loan volumes, they still put pressure on banks’ net interest margins. The deteriorating macroeconomic environment, coupled with low interest rates and increased competition from banks and fintech firms, is expected to increase pressure on bank profitability.

The pan-European regulator also concluded that banks are once again preparing to take riskier loans. In an increasingly desperate attempt to achieve positive returns, banks were found to have increased total asset volume by 3% in the 12 months ending in June and ‘dramatically increased’ their portfolios. riskier loans (consumer, commercial real estate, and small and mid-sized business finance), with more to come. “In a bleak economic outlook, banks should avoid excessive easing of credit standards.”

But at least on the bad debt front, a further contraction may well occur. The bad debt manager in Italy, AMCO (Asset Management Co SpA), owned by the Treasury, recently confirmed that it will raise € 1 billion in new capital before the end of the year with the aim of absorbing more money. ‘toxic assets. It is expected that the capital will be used to purchase loans from distressed lender Banca Carige. And reports have also revealed that AMCO will take over € 10 billion in bad debts from Banca Monte dei Paschi di Siena, for which the government has been stuck in negotiations with the EU for several months. According to the chief economist of the Italian Banking Association (ABI), Francesco Masala, on the other hand, Italian lenders are expected to see their bad loans decrease by 15 billion euros net per year over the next few years. If achieved, ABI expects Italian banks to be able to reduce their overall exposure to corrected loans to just over 5% of total loans by 2022, which would be close to the new. benchmark for lenders as stipulated by guidelines issued by the EBA.

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