Spanish Bank Junior Bonds Suffer Heavy Losses on Rescue Bets

Spain’s biggest banks had the worst-performing junior bonds this month on concern investors will be wiped out in a rescue of the nation’s financial system.

Banco Bilbao Vizcaya Argentaria SA securities suffered the most of any European bank subordinated bonds, losing an average of 8.6 percent, according to Bank of America Merrill Lynch’s Euro Financial Subordinated & Lower Tier-2 index. Notes of Banco Santander SA, Spain’s biggest lender, lost 5.7 percent, the second-biggest decline.

Spain is wrestling with how to bolster its banks as 10-year borrowing costs approach the critical 7 percent level and Bankia SA, the nationalized lender formed from broken savings banks, requests 19 billion euros ($24 billion) of state aid. Holders of junior debt sold by Spanish lenders would suffer first losses in any rescue imposed on bondholders.

“The risk of subordinated bondholders absorbing losses has increased in the last few weeks,” said Andreas Fischer, a fund manager at Credit Suisse Asset Management in Zurich. “There is a general negative sentiment on Spain, and subordinated bonds are one of the portions most at risk.”

The extra yield investors demand to hold Bilbao-based BBVA’s 1 billion euros of 4.375 percent subordinated bonds due 2019 rather than government is holding at a record 788 basis points after surging 200 basis points this month, Bloomberg Bond Trader prices show. The yield-spread on Santander’s 6.5 percent 2019 securities has climbed to a record 826.5 basis points from 676 at the start of May, the prices show.

No Solution

“Because of the importance of the recapitalization of the Spanish bank system, and in particular the issue of Bankia, investors are wondering about the ability of the Spanish government to solve this problem alone,” said Nicolas Gouju, a fund manager at Groupama Asset Management in Paris. “While there is no straight solution, the sub bonds are in danger because of the potential for bail in.”

BBVA and Santander were among 16 Spanish banks downgraded by Moody’s Investors Service earlier this month, with the ratings company citing recession and mounting loan losses for the sweeping cuts. Both banks had their ratings lowered three levels to A3.

Cut to Junk

Banco Popular Espanol SA, the Spanish lender whose credit rating was cut to junk by Standard & Poor’s last week, had the single worst-performing junior bond in the Bank of America index. The lender’s 250 million euros of 8.25 percent bonds due October 2021 lost investors 10.3 percent in May.

BBVA’s senior debt shed 1 percent this month, the fourth worst-performing security in Bank of America Merrill Lynch’s EUR Corporates, Banking, Type-Senior index. Santander’s senior bonds lost 0.7 percent.

“The market is assuming that money may have to come from bondholders, with sub bondholders feeling the most nervous,” said Roberto Henriques, an analyst at JPMorgan Chase & Co. “Institutional investors might have been more naturally exposed to the two large commercial banks, so those are the bonds that they’re selling.”

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