Spain Banks Face 2011 Revenue Drain on Funding Costs

Spain’s Banks Face Revenue Drain in 2011
Banco Pastor SA, based in La Coruna, has the lowest ratio of mortgages to overall lending at 16 percent. Photographer: Markel Redondo/Bloomberg

Spain’s banks, burdened this year by rising defaults and flagging credit demand, will face further pressure in 2011 as funding costs eat away at the returns on their stock of home loans.

The squeeze may be worst for lenders with the greatest proportion of mortgages because they have less scope to pass on the financing costs to customers, said Claire Kane, an analyst at MF Global in London. Ibercaja, a Zaragoza-based savings bank, has 53 percent of its loans in mortgages, while Bankinter SA, based in Madrid, has 46 percent, Bank of Spain data show.

“The amount of mortgages a bank has gives an indication of who is going to face the most pressure on revenues,” said Daragh Quinn, an analyst at Nomura International in Madrid. “The more retail mortgages you have, the more difficult it will be to re-price your loan book.”

Concern that Spain won’t be able to reduce the euro region’s third-highest budget deficit and avoid a European Union bailout has driven up financing costs for the banks. The nation’s Aa1 credit rating may be lowered, Moody’s Investors Service said on Dec. 15, blaming banking losses, regional public deficits and mounting borrowing costs as the government and lenders seek to refinance 260 billion euros ($345 billion) of debt.

The cost to insure the senior debt of Bankinter for five years has almost doubled since April, to about 330 basis points, data compiled by Bloomberg show. That’s almost twice the cost of insuring the debt of Belgium’s KBC Groep NV, which has the same A1 rating from Moody’s as Bankinter. Both have a negative outlook from the rating company. The Spanish bank is the fifth-worst performer in the 53-member Bloomberg Europe Banks and Financial Services Index this year after dropping 42 percent.

‘Squeezing’ Margins

Bad loans as a proportion of total loans in Spain climbed to 5.67 percent in October, the highest level since January 1996, from 5.50 percent in September and 4.99 percent a year ago, the Bank of Spain said today.

The cost of luring deposits also rose. The average rate paid on Spanish household deposits for as long as a year reached 2.61 percent in October, compared with 1.13 percent in Germany.

Spanish banks are already contending with losses on loans to property developers and real-estate assets taken on their books during the property crash. Moody’s estimated on Dec. 13 that lenders had recognized only half of the estimated 176 billion euros of losses they will have to absorb on their loans.

The ability of Spanish banks to generate profits at the moment is “very limited,” said Juan Jose Toribio, a professor at the IESE business school and a former head of financial policy at the nation’s finance ministry. “Because they have liquidity problems, they are paying more for their liabilities and that is squeezing their margins.”

Mortgage Surge

Consolidated nine-month profit at Spain’s commercial banks and savings banks fell 18 percent from a year earlier to 14.3 billion euros, according to the banking and savings bank associations. As many as 13 mergers are underway that will reduce the number of savings bank groups to 17 from 45 in a process backed by 11 billion euros from a government bailout fund.

Spain’s housing boom led to a fivefold surge in mortgage lending to about 618 billion euros over the past decade. Banks drove down the rates on home loans to lure customers they could then sell credit cards, insurance and current accounts.

Banks that lend more to companies can turn over their loan books at a faster pace to raise the return on credit, said Nomura’s Quinn. By contrast, the average life of new mortgages taken out in Spain in the third quarter was 25 years, according to the College of Property Registrars.


“The financial institutions that will have most problems are those that are most handicapped in re-pricing their assets,” said Albert Coll, deputy chief financial officer of Banco Sabadell SA, which makes two-thirds of its loans to companies. “They will be those that have a larger percentage of mortgages.”

Banco Pastor SA, based in La Coruna, has the lowest ratio of mortgages to overall lending at 16 percent, while Sabadell, based in the Spanish town of the same name, has 17 percent and Madrid-based Banco Popular Espanol SA 18 percent, according to the Bank of Spain.

Mortgages to individuals account for about 29 percent of the Spanish loan book of Banco Santander SA, a spokeswoman for the country’s biggest lender said in an e-mail.

Having a lower weighting of mortgages hasn’t saved the banks from taking punishment from investors. Sabadell is down 19 percent this year, while Popular and Pastor fell 23 percent.

Loan Quality

“It’s kind of the flip side of the coin,” said Kane. “Sabadell and Popular may have more flexibility to re-price their loans but people also worry about the quality of their lending to small- and medium-sized companies and developers.”

A Bankinter official, in a statement, said while mortgages provide a lower return than products such as personal loans, they are also less risky and generate better returns after provisions. A spokesman for Zaragoza, Spain-based Ibercaja didn’t immediately respond to a request for a comment.

Javier Torrero, chairman of Torrero Torinco, a Cordoba, Spain-based maker of products such as doors and windows for the construction industry, said Spanish companies are accustomed to banks charging more for loans. He expects lenders to increase the cost of credit further in 2011.

“Banks will just keep raising their rates,” said Torrero, who described the effect of higher financing costs on companies as “horrific.” His banks, which include Santander and Banco Bilbao Vizcaya Argentaria SA, have raised the rate they charge on loans to 3 percentage points over the 12-month euro-area interbank offered rate, or euribor, from less than 1 percentage point three years ago, he said.

‘Profitable Business’

At Sabadell, rates on two-year corporate loans have climbed to 233 basis points over 12-month euribor from 205 basis points last December and 190 basis points in March 2009, said Coll. Euribor, a benchmark for most Spanish mortgages, currently stands at 1.53 percent. A basis point is equivalent to one one-hundredth of a percentage point.

The quality of Spain’s mortgages has proved resilient, even with unemployment higher than 20 percent. Moody’s expects a loss ratio of 2.8 percent for home loans, compared with 12.9 percent for loans to developers and 50 percent for real estate assets.

“Mortgages can be a problem in a given year such as 2011 because of the prevailing liquidity or funding conditions,” said Arturo de Frias, an analyst at Evolution Securities Ltd. in London. Over a longer period, they remain “a very profitable business,” he said.

Mortgage ‘Millstone’

Even so, the ability to adjust lending rates will be crucial to Spanish lenders maintaining profitability, said Kane.

Bankinter’s customer spread, the difference between its yield on assets and the cost of its liabilities, shrank to 81 basis points in September from 1.93 percentage points a year earlier. Net interest income plunged 40 percent in the third quarter at the bank, whose chief executive officer, Jaime Echegoyen, resigned a day before results were announced.

“From being a goldmine for the banks, mortgages have now become a millstone,” Pablo Garcia, head of equities at Oddo Sociedad de Valores in Madrid, said by phone.

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