Photographer: Giuseppe Aresu/Bloomberg

Senior Bank Creditors Aren’t as Safe as Some Think, Danske Says

The biggest bank in the first EU nation to put an end to bailouts says Italy’s efforts to rescue its lenders are no indication authorities will go easy on senior creditors in the future.

As some financial analysts question the resolve of the EU ever to go through with a bank bail-in, Danske Bank A/S, the biggest lender in Denmark, is cautioning against such assumptions.

The bonds at the heart of the debate are non-preferred senior. Analysts at Bank of America have described them as a “great bargain” if state bailouts are back on the table. But the higher return on the bonds reflects a very real risk, according to Christoffer Mollenbach, Danske’s head of treasury. He’s advising against applying any lessons from Italy to the EU’s future framework for troubled lenders.

“What we’re seeing in Italy is more of a legacy capital structure and that won’t apply to capital structures in the future,” Mollenbach said in a phone interview.

Clear Risk

“You have a history where some of the investors could claim that the rules of the game were changed ex post,” he said. “But you can’t make that argument in the future. If you buy non-preferred senior, it will state very clearly in the law that it is bail-in-able.”

Italy may seek precautionary bailouts for as many as three banks. Banca Popolare di Vicenza SpA and Veneto Banca SpA have said they qualify for state-assisted recapitalization after the European Central Bank found them to be solvent. That follows efforts to rescue Italy’s third-biggest bank, Banca Monte dei Paschi di Siena SpA. The government’s support, which still needs EU competition authority approval, is seen as a test case of Europe’s Bank Recovery and Resolution Directive.

‘Hard to Imagine’

“If these banks qualify for an opt-out to senior bail-in, it’s hard to imagine circumstances when any other troubled bank would need to be bailed-in,” BofA analysts led by Richard Thomas said in an April 5 note. “The two Italian banks are so egregiously small and weak that if there is no bail-in, then why would any bank be bailed in?”

Under BRRD, a firm that needs “extraordinary public financial support” is failing and should be wound down. In that process, investors including senior bondholders can be forced to take losses. Precautionary aid is allowed for solvent banks if a long list of conditions is met.

Financial authorities are in the middle of setting minimum requirements for own funds and eligible liabilities (MREL) for local banks to shield taxpayers from losses. The European Commission has proposed creating a new type of bond, non-preferred senior, where the risk of taking losses is made explicit. The new asset class also makes losses less likely for existing senior bondholders.

Amagerbanken

How the EU deals with troubled banks is of particular interest to Denmark, because of its particularly stringent application of bail-in rules well before the rest of the bloc had formulated any legislation in the field. Mollenbach says he sees no reason to assume Danish issuers will face tougher local rules than the rest of the EU.

Denmark passed a law in 2010 to shield taxpayers from failing banks. The legislation was tested half a year later, when Amagerbanken A/S’s collapse left senior bondholders in the lurch. The shock resulted in all but the biggest Danish banks being shut out of funding markets at the time. But ultimately, Denmark’s financial industry bounced back and Danske Bank is today one of Europe’s strongest lenders, ranked by capital adequacy and shareholder returns.

“As the industry moves toward more explicit senior preferred and non-preferred -- and a lot of our issuance will be on senior non-preferred -- the focus will be on the credit quality of a bank, which is what we saw in the financial crisis,” Mollenbach said.

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