By Don Quijones, of Spain, UK, and Mexico, and an editor at Wolf Street. Originally published at Wolf Street.
Risk. Exposure. Contagion. These are three words we’re likely to hear more and more in relation to Europe, as the Eurozone’s debt crisis returns.
On Friday, Italy’s 10-year risk premium — the spread between Italian ten-year bond yields and their German counterparts — surged almost 20 basis points to 212 basis points. This was the highest level since May 2017, when a number of Italy’s banks, including third biggest bank Monte dei Pacshi di Siena (MPS), were on the brink of collapse and were either “resolved” or bailed out. Now, they’re all beginning to wobble again.
Shares of bailed-out and now majority-state-owned MPS, whose management the new government says it would like to change, are down 20% in the last two weeks’ trading. The shares of Unicredit and Intesa, Italy’s two biggest banks, have respectively shed 10% and 18% during the same period.
One of the big questions investors are asking themselves is which banks are most exposed to Italian debt.
A recent study by the Bank for International Settlements shows Italian government debt represents nearly 20% of Italian banks’ assets — one of the highest levels in the world. In total there are ten banks with Italian sovereign-debt holdings that represent over 100% of their tier-1 capital (which is used to measure bank solvency), according to research by Eric Dor, the director of Economic Studies at IESEG School of Management.
The list includes Italy’s two largest lenders, Unicredit and Intesa Sanpaolo, whose exposure to Italian government bonds represent the equivalent of 145% of their tier-1 capital. Also listed are Italy’s third largest bank, Banco BPM (327%), Monte dei Paschi di Siena (206%), BPER Banca (176%) and Banca Carige (151%).
In other words, despite years of the ECB’s multi-trillion euro QE program, which is scheduled to come to an end soon, the so-called “Doom Loop” is still very much alive and kicking in Italy. The doom loop is when weakening government bonds threaten to topple the banks that own the bonds, and in turn, the banks start offloading them, which causes these bonds to fall further, thus pushing the government to the brink. The doom loop is a particular problem in the Eurozone since a member state doesn’t control its own currency, and cannot print itself out of trouble, which leaves it exposed to credit risk.
But it’s not just Italian banks that are heavily exposed to Italian debt. So, too, are French lenders, which last year had combined holdings of Italian bonds worth €44 billion, according to data from the European Banking Authority’s 2017 transparency exercise. Spanish banks had €29 billion.
Which three non-Italian lenders of consequence are most exposed, in absolute terms, to Italian debt, based on Dor’s research?
BNP Paribas, France’s largest bank, with €16 billion of Italian sovereign debt holdings.
Dexia, the French-Belgian lender that collapsed twice and was bailed out twice between 2008 and 2011. It holds €15 billion of Italian debt.
And, drum-roll please: Banco Sabadell, the mid-sized Spanish lender that already has a gargantuan self-inflicted IT crisis on its hands at its UK subsidiary TSB. It has €10.5 billion invested in Italian bonds — the equivalent of almost 40% of its entire fixed asset portfolio, worth €26.3 billion, and 110% of its tier-1 capital.
“With the data from the European Banking Authority, we estimate that the lenders that would suffer the greatest impact [of a new Italian debt crisis] are Unicredit, Sabadell and Intesa Sanpaolo,” analysts from RBC Capital Management recently warned. According to their calculations, with every 10 basis-point rise of Italy’s risk premium, Sabadell will suffer a €28 million hit to its tier-1 capital. Since the coalition between Italy’s Five Star Movement and Lega was first unveiled, on May 15, Italy’s risk premium has surged by 81 basis points.
To make matters worse, another third of Sabadell’s fixed asset portfolio is invested in Spanish bonds. They are also losing value, partly as a result of the contagion effect from Italy but also due to rising domestic political instability, and the approaching end of the ECB’s QE. In the last two weeks, yields on 10-year Spanish bonds have risen from 1.27% to 1.47% while the 10-year risk premium has surged from 72 to 110.
When yields rise, prices fall by definition, and the more prices of Italian and Spanish bonds fall, the bigger the hit the banks’ capital buffers. The more the banks suffer, the more they will shy away from their respective domestic government’s debt, resulting in further falls in bond prices. Such is the fragile relationship of co-dependence between Eurozone banks and the governments whose debt they buy in such abundance.
When banks invest heavily in government debt, they become dependent on the government’s good performance, which is clearly not a given, especially in the Eurozone. Meanwhile, the governments depend on the banks to continue purchasing their debt, which also is no longer a given. This is the “doom loop.” It’s circular. It gets kicked off when either one falters, and the consequences can be dire for both.
In the case of Sabadell, it already has enough on its plate trying to clean up the mess it has created with the botched IT upgrade at its UK subsidiary, TSB, where customers are now leaving in droves. Given that TSB represents roughly a quarter of Banco Sabadell’s total assets, the impact on the Spanish bank’s own financial health could be considerable. If the sell-off in Italian sovereign debt escalates, Sabadell will have even bigger problems on its hands. By Don Quijones.
Blackstone Group, Cerberus Capital Management, and others face a problem. Read… Wall Street Mega-Landlords Piled into Spain’s Rental Property Boom, and Now it Hits a Wall?
It’s also arguable that the Sabadell purchase of TSB was a backdoor recapitalisation back in 2015 due to the inexplicably generous terms of the sale:
(Sabadell got £1.1bn net free capital from the deal, in other words).
Which at the time said to me Sabadell was a zombie with heavy makeup applied. There was zero business case for the purchase otherwise. There was (and there remains) no identifiable synergies, no particular shared expertise, no significant growth potential and no IT system commonality between TSB and Sabadell. And we’ve seen how well attempts to resolve the latter are working out for everyone.
Again and again we see the intelligent people in charge of complexity, personally gain fortunes a peasant cannot even dream of while destroying billions. It’s not fair.
All the executives from the very beginning of these fiascos should have all the money they ever made taken away, their Rolls Royce’s, Mercedes Benz’s and mansions sold at auction to recoup a penny on the pound or dollar and then given a cardboard box and be told to live under a bridge or hide in the bush. That would be fair.
But what then was the motive of Lloyds to bail out Sabadell?
Lloyds was a forced seller under EU state aid rules (“a divestment package”). It had tried to sell TSB to the U.K.’s Co-Operative Bank, which was another basket case. Lloyds could barely give TSB away.
It was a race to find a desperate buyer who needed the benefit of recapitalisation in disguise but at the cost of taking on a medium-term risk of integrating TSB with their own legacy systems. Sabadell sounded like that particular Desperate Housewife.
Does Lloyds have both Pound denominated and Euro denominated revenue streams? I mean, Sabadell functions under the ECB regime, so Spain does not have too much control over ‘bailing out’ Sabadell. Lloyds functions under the English system, if I read correctly, and so can take advantage of an out of Europe currency ‘bail out’ system.
Thus, could this deal originally have had aspects of currency and rate arbitrage? Even with the price knock off, what did Sabadell give Lloyds that Lloyds management considered worth the premium?
Really, if Lloyds thought that Sabadells collateral on the deal was superior to English collateral, then something really ‘bent’ is hiding in the English financial ‘sphere.’
Finally, can Lloyds management be so incompetent as to let Sabadell shoot themselves in the foot like this? Didn’t anyone in the Lloyds boardroom see the domino effect a TSB collapse would induce?
A big unexpected consequence of the TSB melt down could be a gradual public repudiation of digital banking. I understand that digital banking is only a part of the TSB debacle, but digital banking will be the ‘face’ of banking to most people today.
Makes me want to go long on cowrie shells. (Hard currency never looked so good.)
Lloyds has I think overwhelming sterling maturity matching risks, as you say Sabadell has euro denominated exposure. This then makes Sabadell Spain’s banking regular’s problem (and thus the ECB’s problem).
Part of the TSB divestment deal was that Lloyds could genuinely wash its hands of the matter thereafter (this “no recourse” aspect did account for why Lloyds not only gave TSB away, it paid Sabadell to rid it of its unwanted foster child). Sabadell isn’t Lloyds’ problem. Which is either good or bad depending on where you’re standing (and what commercial paper you’re holding).
That ‘State Banking Regulator’ versus ECB regulatory split looks like an invitation to disaster. Was this disconnect understood from the beginning of the Eurozone experiment?
Is there no honour among thieves, er, bankers today? I get that Lloyds would be more than happy to offload the TSB albatross from around its’ neck. But to let Sabadell make such a boneheaded move as to botch the IT transfer defies logic. Someone inside either bank saw this coming and either kept quiet about it or was silenced. Are the banks really so cutthroat as this? As a consequence, such an occurrence as this ‘degrades’ my confidence in banking in general. The good treatment banks afford their depositors and customers looks to, theoretically, only be as good as the public can force from the banks.
The older I get, the more I realize how fragile ‘civilization’ is.
>. . . Are the banks really so cutthroat as this? . . .
Yes. Logic has nothing to do with it. Greed does. How logical was it to “spend or expense” 2.6 billion pounds to create the TSB albatross in the first place? Some executives made terribly stupid decisions and were handsomely rewarded. There is no foresight or divining the future by the intelligent people in charge of complexity. It’s a gigantic farce.
On a small scale it’s no different than the unscrupulous car dealer putting heavier oil in the crankcase to quiet the engine knock. Sold to you.
It’s pretty Machiavellian, but what happened at Sabadell is just gross negligence. I’ve worked with very talented CIO’s that have exposed and shut down projects. One of the largest I can remember was ten’s of millions and 18 months down the road and this is based on decade old pricing. There are adults who realize its career suicide to implement a project that shuts down banking. Those folks live on the daily edge of knowing stuff breaks and a developer can blow them up with zero warning. They would not tolerate going live with the mess that was implemented and would go before the board and tell them so. I’ve seen it done on far smaller scales with far, far less at stake.
For TSB to get this far down the road is indicative of sham governance in the Exec suites and Board level, and given the multi-board structures of TSB, and multiple regulators / monetary authorities I can see localized politics playing a larger role than it should.
I’m not defending the TBTF’s, nor do they deserve sympathy, but when a TSB or RBS does something blatantly knuckleheaded like this, the entire Financial IT sector goes into reactionary red-alert stress mode with every Risk, Board Governance and Regulator assuming everyone is a knucklehead, no one can be trusted and they must inspect everything. The front office guys are happy to scoop up new customers, but for the backoffice and infrastructure people it is a nightmare.
Ah ha. Thanks to Clive and notabanker for setting my feet on the right path.
This is just another installment of a long running financial soap opera. I should have guessed.
Since this seems to be a delayed knock on effect of a government bail out of a big bank, Lloyds in this case, when will something similar happen over here in America? The dynamics look similar to this casual observer.
I think you are rigth. It was once speculated that it was a solution For Banc Sabadell in case of catalonian secession guaranteeing access to ECB. Imagine!!!
No links today?
My money’s on an egregious IT snafu.
Or, it could be that this is also IT Memorial Day; a day to remember those blogs that have fallen in defense of our freedoms.
A toast to the long lost Horsie.
Everybody deserves a day off occasionally, especially NC. That distant roaring sound that you can hear is the US mid-terms barreling down the road which means the rest of the year is going to get even busier. Best to grab some down-time now if that if the cause of the missing links.
That distant roaring sound – You mean the distant shrillary sound?
Have you heard the proverb “patience is a virtue”? Yves did say well in advance that posting would be lighter over the holiday weekend, for those who are paying attention. Yves also mentioned that her ISP is doing its best to turn Manhattan into a third-world country in terms of getting a reliable internet connection, which does not exactly help things.
Links are being prep’ed backstage. But please don’t hassle the management; they work way, way too hard as it is keeping this particular show on the road. It truly is a thankless task. Anyone who believes otherwise really should try running a blog. I sincerely doubt they’d last a month.
It was just a simple question. I asked in case someone had forgotten to post them, which I have seen happened before with the water cooler.
In which case, if you wish to demonstrate you’re in possession of good manners and simple courtesy you would say something like “Not sure if Links will run today, but if so, it might be worth someone checking if they’ve been committed to publish as they’re not showing. But if as we’ve been previously advised posting is light today, that’s not a problem, quite understandable.”
What you originally wrote was borderline rude. And it had the whiff of a demand about it.
Yeah I saw they were going light so I went off into the tubes to try to find an interesting link to throw in and after an hour of wandering around the web came up with nothing. I have no idea how they do it. We’re spoiled with over delivery in an under delivering world.
No, I am not FK’ing anyone. The standards of behaviour on the internet are little short of a disgrace. Other places, well, they’ll just have to look after themselves and set their own tolerance levels. But I will not hesitate to point out where people are being unreasonable or demanding what they’re not entitled to here and I then having to read it in amongst the decent and considerate comments which are, fortunately, the norm here.
Put it this way, if I called round to your or anyone’s house or apartment — my being a complete stranger — and knocked on the door, whereupon when you opened it I said nothing more than “No tea and biscuits today?” I invite everyone to think about how they’d respond.
In which situation, AYFKM, as you so quaintly put it, would be being a lot more tolerant a response than I’d deserve.
Of course, I would never dream of marching up to a totally unfamiliar person and making an abrupt demand like that. Or even voicing my “concerns” about if I suspected they had inadvertently forgot to make the tea and buy the biscuits, as they’d been known to make the mistake of not doing on occasion before and how I was there just trying to be helpful and not wanting them to look foolish in front of me. Because rather than showing I was being all heart and operating out of no other motivation than pure altruism, I might risk looking a bit presumptuous and with an overly developed sense of entitlement about me.
Holy Moley, it was three words and a question mark.
Yes, indeed. With an inbuilt expectation that someone provide a response. “Don’t worry if you’re on vacation.” are another six. But they’d make a whole lot of difference.
Maybe he/she thought a non-blogger could answer? You know one of the many posters who are responding today.
“Yes, NC doesn’t usually do links on Memorial Day” ~ Clive.
Something like that.
Readers ask questions all the time. Nothing wrong with that at all. Polite questions.
And questions, if they are that, should be phrased as if they are asking not demanding. If you’re unsure of the difference, here’s Clive’s foolproof tests. Try any one of the following:
1) ask your mother or father “No $20 today?” (assuming they are not in the habit of routinely giving you petty cash)
2) ask your spouse or significant other over the breakfast table “No coffee today?”(assuming making the beverage isn’t part of an established relationship quid pro quo)
3) ask you boss “No ‘good morning’ today?” (as the first thing you say without any initial banter)
If the other parties simply go off and find some money to give you, make your coffee or say a cheery “morning!” then this is a perfectly satisfactory means of conversing and an accepted and acceptable way of posing a fair question/requested action. If, however, an argument or bad feeling ensues, it’s probably a clue that they think you’re not asking, you’re telling.
Thank you Clive.
A whiff of demand? That’s your interpretation. I’m not as verbose as you. I prefer to keep things simple. I don’t know why you’re attacking me. What you have written is absolutely rude. Leave me alone
I asked you to exercise patience, which isn’t a big ask. I advised that previous notifications had been provided about reduced levels of posting. You obviously didn’t check. I explained that providing a daily diet of content (which is free, as you know) is not at all easy. I invited you to consider if you’d show the same level of commitment as you get shown to you.
You could have simply responded with an “Okay, thanks”. Perhaps even a “Sorry, I didn’t read that information in the earlier post”. You could even have said nothing.
But no, I got a “I was only asking a question” reductionist reaction. And now you’re trying to make out that the additional typing of “please” or “thanks” such as, for example, “Please could someone let me know if Links are running today, so I can check back later?” is somehow a great imposition or “verbose”.
It isn’t. It’s called being polite.
patience is a virtue
virtue is a grace
Grace is a little girl
who didn’t wash her face
My totally un-financial contribution to Holiday Links.
Links to iconic houses used in classic movies. The best are in Los Angeles, usually in classic film noir. Like the drug baron’s house in L.A. Confidential.
Was almost expecting to see Wells Fargo listed as #1
Sounds like there is panic developing in the financial markets about Italy. I have just read that ‘Italian President Sergio Mattarella has appointed IMF official Carlo Cottarelli as the interim prime minister tasked with forming a new government.’ Sounds like the financial markets wanted one of their own in a position of power in Italy for the moment.
Clive, a question if I could. I read your comment with great interest but the question remains for me of why Lloyds was so keen to get rid of TSB? Or was there some sort of quid pro quo arrangement between Lloyds and Sabadell for something that we have not seen yet?
ZH are reporting gleefully that all hell breaking loose :
“The lender was ordered by the European Commission to sell 631 branches as a condition of its £20billion bailout in 2009. The sale of the branches was intended to boost competition and create a new force on the High Street.”
a new force similar to a black hole
meet the new force, same as the o………
If you are looking for some reading to engage you on this holiday, Kevin Zeese writing in the newsletter from Popular Resistance had an interesting look at the Venezuelan election. Check it out here. https://popularresistance.org/venezuela-defeats-us-in-election/
I also delved into this great story about John McCain, the University of Arizona, and the Apache people.
Jeffrey St. Clair of Counterpunch always delivers an interesting point of view. https://www.counterpunch.org/2018/05/25/out-of-space-john-mccain-telescopes-and-the-desecration-of-mount-graham/
Can we please, PLEASE, once and for all disconnect saving and transaction accounting from lending, so that these bastards can’t hold the larger community hostage to save their own sleazy deals?!
This is getting sadistic. The banks are in a niche that evolved in the Middle Ages and was totally perverted by the Cold War and now they are expected to function almost independently in a supply-sided, debt-deflation world. And to do so in a stock and bond paradigm that always provides a return. Oh yes, and to provide credit to good businesses which are by definition destroying the environment so that the tectonic shifts going on in the big shakedown do not bring human economies to their knees. Grief. Italy might have a brighter future than the rest of the EU tho’. Because if the Southstream really happens and terminals in southern Italy they will be sitting pretty. Brokering and distributing natgas to southern Europe. No wonder they have asked the EU to establish better relations with Russia. The Italian parallel currency might be designed to be a natgas Lira. National currencies backed by gold or natgas or other resources is happening in China, Venezuela, and Russia. No doubt Africa soon. Wonder where this is going to take us.
There is a whiff about something which sought to detach itself from the RCC, due to individualistic perceptions and enabling ones funds to be available at another location – whilst on pilgrimage… not to be confused with big game preserve hunting of course.
The ECB and Eurozone would, umm, drop a brick. They’d also be between a rock and a hard place; Italy is TBTF.
Has someone already announced that the Italian President rejected the coalition’s cabinet proposal – finance minister, in particular.
New elections, it says.
Oops – rejection of Italy’s coalition is in Links. Should have read that first.
somewhat off topic
Italy’s populists reach for power – Five Stars for Rome | DW Documentary