Structural obstacles make Italian banks’ bad loans hard to sell
AFTER years of economic stagnation and questionable lending, bad loans at Italian banks have piled up. The gross value of non-performing loans (NPLs) is around €360 billion ($406 billion), or almost one-fifth of Italian GDP. Hasty repairs and rescues have been arranged for troubled lenders—notably Monte dei Paschi di Siena, the third-biggest, in July. But what can be done about the loan mountain?
The IMF has suggested building a robust market in NPLs, thus placing the burden of bad loans with distressed-debt specialists, freeing Italian banks to provide more credit to the real economy. But although the market for bad debts has started to pick up in Italy, with volumes increasing steadily to reach €22 billion so far this year, structural obstacles mean such markets may be less successful than in other European countries.
Distressed-debt investors tend to buy loans in bulk, and hence prefer loans with easily recoverable, tangible collateral. The NPLs of stricken British, Irish and Spanish banks in recent years were largely mortgages: being backed by property, they could be valued from current real-estate prices. British and Irish courts are also pretty efficient at dealing with claims on collateral. Many Italian NPLs, by contrast, are uncollateralised loans to small businesses or consumers. Even when collateral has been pledged, Italian courts are much slower than those elsewhere to recover it.
Most significant, Spain and Ireland set up “bad banks” a few years ago that used pots of public money to buy NPLs from banks’ balance-sheets and then sold them gradually, creating enough transaction volume for a vibrant market to form. Newly tightened European rules, however, prevent Italy from doing likewise.
Of course, Italian NPLs can still be attractive investments if the prices are low enough. But the gap between banks’ and investors’ valuations is troublesome. Banks have not tended to mark down their loans to any lower than around 40% of their original book value, whereas investors may be willing to pay only 20%. This makes Italian banks even less keen to sell, as it would force them to take a large hit to their already thin capital buffers when selling the duff loans.
Prevented from setting up a bad bank, the Italian government has pinned its hopes on securitisation of NPLs. It has set up a guarantee scheme called GACS for senior tranches of NPL-backed securities. Josh Anderson of PIMCO, an asset manager, reckons that carefully structured transactions could allow NPLs to be transferred from banks’ balance-sheets at something closer to current book value.
However, it is too early to be confident. The GACS scheme has not yet been tested and comes with many strings attached. NPL cashflows may be “too lumpy and unpredictable” to appeal to institutional investors, says David Edmonds of Deloitte, an accounting firm. There are few precedents for securitising NPLs, in Italy or abroad, that provide a useful guide.
Given investors’ reluctance to stump up new capital, transactions that allow banks to thicken their capital cushions through asset sales may provide an alternative. Investors in distressed debt often have private-equity arms too, and have offered to buy businesses from banks to compensate for the capital hit from bad-loan sales. One firm, Apollo Global Management, recently bought the insurance division of Banca Carige, a regional Italian lender. Loan-servicing units, which pursue individual debtors, are especially appealing targets.
Novel approaches hold promise for both banks and troubled business borrowers. KKR, a large private-equity firm, launched a platform called Pillarstone last autumn that combines NPL resolution with corporate restructuring. Like a buy-out firm, Pillarstone seeks to take control of overindebted, troubled firms and turn them round with new capital from KKR. The novelty is that it also manages the bank loans of those firms, with the aim of achieving repayment and giving banks part of any extra profits, too.
HIG Bayside Capital, a distressed-debt specialist, recently announced a €260m fund that goes a step further: it both plans to restructure companies burdened by loans and allows banks to sell those loans at current book value in exchange for a stake in the fund. This should improve banks’ capital ratios while diversifying their sources of income. More such creative ideas will surely be needed to sort out Italy’s bad debts.
This article appeared in the Finance & economics section of the print edition under the headline "Bargain hunt"
