July 19, 2016, 23:18 / Finance

Help for Monte Paschi is postponed

EU countries cannot help weak banks until bondholders share the losses, the European Court reminded Tatyana Bochkareva

Italian aid is in no hurry to Monte Paschi / Gregorio Borgia / AP

Sharing the losses of shareholders and holders of subordinated bonds as a precondition for providing state aid to banks that lack capital is not contrary to EU law,” the European Court of Justice said in its decision. This decision cannot be challenged, writes Bloomberg. The legal proceedings were initiated by bondholders of Slovenian banks, who lost 600 million euros in 2013.

But on the news of the court decision, shares of Italian banks began to fall in price. Quotes of Monte Paschi decreased by 5.7%, UniCredit - by 3.15%, Intesa Sanpaolo - by 2.74%.

On July 29, the results of stress tests by the ECB and the European Banking Authority will become known, which will likely reveal a hole in capital at Monte Paschi, the oldest bank in the world and the third largest in Italy by assets. According to various estimates, it will range from 2 billion to 6 billion euros. Finding this money in the private capital market will not be easy: investors have poured 8 billion euros of new capital into Monte Paschi over the past two years, but the bank is now worth less than 1 billion euros. In addition, the ECB requires Monte Paschi to reduce non-performing loans, which make up a third of its portfolio, from €24.4 billion to €14.6 billion in 2018.

JPMorgan gets into debt

The other day, the Italian newspaper Il Messaggero, without citing sources, reported that JPMorgan is ready to provide a bridge loan of 7 billion euros to a company that will buy bad loans from Monte Paschi.

Italy wants to recapitalize weak banks without passing on losses to their bondholders. The problem is that many of them are retail investors. According to the IMF, citizens own bonds of local banks worth 187 billion euros and their subordinated (the most risky) bonds worth 30 billion euros. Subordinated bonds are automatically converted into shares when the bank's key indicators fall below a certain level. Monte Paschi has 5 billion euros of such bonds outstanding, and half of them are owned by retail investors.

The Italians bought these bonds as a more profitable alternative to bank deposits - they could get up to 4% per annum. But in the fall of 2015, the government had to rescue four regional banks - Banca Etruria, Cassa di Risparmio di Ferrara, Banca delle Marche and CariChieti. Banks received 3.6 billion euros, and thousands of Italians who had invested in their subordinated bonds lost their savings. After a pensioner who lost €110,000 in Etruria committed suicide, Italy created a €100 million compensation fund for injured investors.

Prime Minister Matteo Renzi hardly wants to repeat this experience, especially since a referendum on constitutional reforms will be held in Italy in October and it is now important for him not to anger the voting participants. But EU laws allow state aid to banks before part of the losses go to investors only in exceptional cases. At the beginning of July, Bank of Italy Governor Ignazio Visco said that the injection of budget funds into weak banks cannot be ruled out.

Politicians at various levels, including German Chancellor Angela Merkel, have repeatedly said that the main problem of Italian banks – 360 billion euros of overdue loans – is not new, so we can’t talk about exceptional circumstances.

An EU rule came into force this year requiring that before troubled banks receive government bailouts, their losses of 8% of liabilities must be shared among holders of both subordinated and senior bonds, meaning losses to retail investors will be greater , writes FT. However, according to the IMF, if Italy has to save the 15 largest banks, in most cases the holders of the riskiest bonds will suffer.