Has the time finally come to test the EU’s bail-in law? The shares of Spain’s sixth biggest bank, Banco Popular, plunged 36% this week to €0.43, reducing the bank’s market capitalization to €1.7 billion. Just three weeks ago, when there was still a glimmer of hope that things could be turned around, it was worth almost double that. Its shares traded at €15 ten years ago, before the collapse of Spain’s mind-boggling housing bubble that left Popular holding billions of euros of real estate assets. Popular may not be a systemically important institution, but it’s nonetheless an institution of great import. It has the largest portfolio of small business customers in Spain and enjoys the patronage of one of Spain’s most influential institutions, Opus Dei. Its well-heeled members are among the bank’s most important shareholders and investors, and they stand to lose a lot of money if a last-minute buyer is not found soon.
This is an outcome that can no longer be discounted, especially after reports emerged on Thursday that senior officials of the ECB’s regulatory arm, the Single Supervisory Mechanism, had warned the bank could be wound down if it fails to find a buyer. But the EU agency charged with overseeing bank failures later issued a statement saying it “never issues warnings about banks.”
But the damage has already been done. And it’s not just Opus Dei, or Popular’s thousands of long-suffering retail investors, that could end up paying a heavy price. Popular’s investors also include PIMCO, one of the world’s largest asset managers, which owned €279 million of Popular’s outstanding €1.25 billion of face value in AT1 bonds at the end of March, making it by far the largest holder at the time.
These AT1 bonds go by another more familiar name: contingent convertible bonds, or Co-Co bonds. These are financial instruments that pay high coupons, because they come with a high risk, designed as they are to absorb losses at times of distress, by converting to equity or being written down when the lender’s capital ratio falls below a certain point.
Popular’s second batch of Co-Cos, worth €750 million, dropped to 59 cents on the euro, the lowest point ever reached by a bank Co-Co bond.
So far, despite their high-risk nature, no AT1 bond has ever been bailed in. But Popular, as a mid-sized bank that has arguably exhausted all its possibilities of resurrection, is in a terribly weak position.
“It would be the first triggering of an AT1,” Lloyd Harris, an analyst at Old Mutual, told the FT. “These types of events are more likely for Popular than they ever were for Deutsche Bank,” he added, referring to Deutsche Bank’s Co-Cos that got trampled last year. If a triggering occurs, PIMCO and other investors would take a hit. If Popular were wound down, many more wealthy global investors, particularly in Latin America, would also be hit hard. They include the Luksic, Chile’s richest family, which bought 3% of Popular’s shares at the beginning of May in an operation then valued at €87 million. It’s now worth little over half of that. Another investor that stands to lose big time is the Mexican billionaire Antonio del Valle, who invested €450 million in Popular in 2013.
In recent weeks rumors have abounded that a loose consortium of Latin American investors is planning to take over the bank, once its share price has tanked low enough. But for the moment, they are just rumors.
By now, the only bank that appears to still have a passing interest in buying Popular is Spain’s biggest bank, Santander, which would like nothing more than to get its hands on Popular’s retail business, in particular that massive portfolio of small business clients. But for that to happen, Popular’s over €30 billion of impaired real estate assets would have to be neutralized, almost certainly involving taxpayer funds. Something would also have to be done to nullify the class action law suits mushrooming on the other side of the Atlantic over Popular’s alleged misleading of investors in the lead-up to its last capital expansion, in 2016 (What’s the matter with these investors that bought the capital-expansion hype?)
The big question is whether the ECB and the European Commission would lend their approval to such a takeover, especially if billions of euros of public funds are required. Having just awarded Italy’s Monte dei Paschi a last-minute reprieve, prompting accusations that even banks that are not too big to fail are still getting bailed out in Europe 10 years after the financial crisis, they may feel that the time has finally come to test out the EU’s bail-in law.
And if they do, a lot of investors, rather than taxpayers, could end up losing their shirts, which would be a welcome change, while market players may even begin questioning just how safe Spain’s saved banking system really is.
Banco Popular “itself cannot at this point make a rough calculation” of what its value is, “and if they can’t, neither can we”....