Differing Views on the Spanish Banking Sector
[Update: Some additional comments have been posted on this, not least the response of VP which can be found in its full length (+the Iberian Equity piece) here and here. Edward adds some points on AFOE and FT's Alphaville elaborates further as well.]
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Who does not like a good argument? I for one do, especially when it comes to economics. A lot of water has already gone under the bridge relative to the note published a couple of weeks back by VariantPerception on the Spanish banking sector which provided a timely and, in my opinion, accurate analysis of the issues facing the Spanish banking and financial system as a function of the dire macroeconomic situation Spain finds itself with skyrocketing unemployment and lingering (and entrenching) deflation. Now, the reason that I point out how "a lot of water has gone under the bridge" is quite simply that I know the people at Variant and, as you know, I also know Edward Hugh who was very effective in dessimating the conclusions of the report across his (second) empire now growing on Facebook. As Edward noted here on A Fistful of Euros in the immediate aftermath of VariantPerception's report, it quickly got a lot of attention.
Now, I wish that I could present PDFs of both reports here (i.e. the VP and Iberian Equity report), but I can't due to the fact that such reports are usually behind the firewall. However, this first note by FT's Alphaville on the VP report and the second note, just published, on the challenge by Iberian Equities are enough to get a sense of the argument.
I have seen VP's rebuttal and I still square with their side of the fence. Especially, Iberia Equities make the following point in their report;
"Variant claims Spanish banks are not marking their loan books to market. Non-performing loans in Spain (4.6% of the system’s loans by the end of Jun’09) are marked-down according to different provisioning calendars set by the Central Bank. For non-mortgage loans, NPLs are provisioned at the end of year 2. The majority of mortgage loans (40% of loans or two thirds of mortgage loans) have been – until the BoS made changed the interpretation of the rule - also 100% provisioned by year 2. Only a small fraction of
low –risk mortgages (20% of loans) are provisioned according to a long calendar (100% provision by year 6). By international standards, Spain’s provisioning calendars are quite strict especially considering >60% of loans have a mortgage collateral".
To which VP replies;
"Non-performing loans are being passed off as current, vacuumed up and rolled ito cedulas to deposit at the ECB's repo window. (Incidentally, that is the only way many Spanish banks are finding any semblance of liquidity right now. Without the ECB, some Spanish banks would have the same liquidity problems that subprime mortgage originators had. The ECB is a mega warehouse, effectively, for the Spanish banking system. This is intimately tied in to the question of funding excess consumption in Spain, which we discussed.)"
In my opinion and apart from the glaring neglect, in the Iberian Equity report, on the macroeconomics of the situation this is the most important omission. This is to say, that had it not been possible (which it still is) for Spanish banks to park many of their assets at the ECB as collateral for funding, they would have effectively needed to mark to a non-existing market (i.e. write off the whole thing in one swoop in which case it would have been bye bye Sandy). I mean, this was what happended with Bear Stearns and Lehmann and then only afterwards did the Fed (and the "appointed" buyers) wade in to scoop up these assets which are now sitting and waiting for better times (presumably, I mean, I don't know how quick they are ground down to reflect market fundamentals).
So, as you can see, I am still with VP here but not everyone may agree in which case it is naturally something which should be debated with facts and reason.