Italian Banks Hit Reset as Taxpayer Billions Bail Out Lenders

Italians may be about to experience something they haven’t felt in some time: confidence in their country’s financial system.

European Union officials capped years of turmoil in Italy’s banking industry on Tuesday by approving a plan to salvage Banca Monte dei Paschi di Siena SpA, a onetime pillar of the financial establishment brought to the edge of ruin by bad loans and poor management.

Coming on the heels of the liquidation of two lenders in northern Italy last month, the action defuses what’s been a big source of financial and political stress in the euro zone for the last two years. It also presents the bloc’s third-biggest economy with an opportunity to reboot a banking industry long plagued by shoddy underwriting and political interference that’s held back growth. The question now is, will government and business leaders seize the moment?

“These agreements mark a turning point for the whole Italian banking industry,” said Federico Ghizzoni, the former chief executive officer of UniCredit SpA, Italy’s biggest lender, and now the executive deputy chairman of Clessidra SGR, a Milan-based private equity firm. “The worst is over. Italian banks have managed to muddle through and hit the reset button.”

They’ve done so with considerable help from taxpayers, a practice that was supposed to be a thing of the past. The European Commission approved a state capital injection of 5.4 billion euros ($6.1 billion) in Monte Paschi, which has been in limbo ever since an emergency share sale flopped last December. Under a process called a “precautionary recapitalization,” the lender can be restructured to dump bad loans and shake up its business practices.

The same treatment wasn’t applied to Banca Popolare di Vicenza SpA and Veneto Banca SpA, two fixtures in Italy’s bustling northeast that burned through their capital as bad assets accumulated. On June 23, the European Central Bank deemed the pair insolvent and the Italian government provided as much as 17 billion euros to clean them up. Milan-based Intesa Sanpaolo SpA, which acquired the good assets of the two failed lenders for 1 euro, received more than 5 billion euros to prevent damage to its capital ratios.

Read here for more on Monte Paschi’s rescue

Both interventions appear to be inconsistent with the spirit if not the letter of post-crisis rules designed to avoid using public money to address bank failures in most circumstances. Yet even as officials debate the nuances of European bailout policy in Frankfurt and Brussels, there’s little doubt that wiping the slate clean is a boon for Italy, at least in the short term.

Systemic Risk

"The deals are questionable from a regulatory point of view, but from Italy’s point of view? They are very positive because at long last they remove systemic risk from Italian banking," said Jacopo Ceccatelli, CEO of Marzotto SIM SpA, a Milan-based broker-dealer.

Investors appear to agree. Shares in Intesa, Italy’s No. 2 bank with 739 billion euros in assets, have jumped almost 9 percent since June 23, compared to a 5.9 percent uptick in the Euro Stoxx Banks Index. UniCredit, which raised 13 billion euros in a February share sale, is also rallying as CEO Jean-Pierre Mustier exits businesses and sells off bad loans. In the first quarter, UniCredit doubled its earnings over the same period in 2016. And Banco BPM SpA, an institution formed in January by merging two struggling lenders, has returned 34 percent to stockholders as it executes a turnaround.

Monte Paschi on Wednesday laid out a five-year restructuring plan that includes cutting thousands of jobs and selling assets after the European Union said it could receive billions of euros in state aid. The lender will trim 5,500 positions, close 600 branches and dispose of 28.6 billion euros of bad loans by 2021, the Siena-based bank said Wednesday. The bank is also targeting a net profit of more than 1.2 billion euros by then.

Shaky Lender

The only shaky lender of any significant size that’s left is Genoa-based Banca Carige SpA, and with assets of 26.8 billion euros it doesn’t pose much of a risk to the wider banking system. Carige’s shares soared 23 percent Tuesday amid optimism that the strategy outlined by newly appointed CEO Paolo Fiorentino will address the bank’s capital issues.
The momentum may not last long if Italian banking and political leaders don’t tackle some fundamental weaknesses, said Marco Elser, the head portfolio manager at Lonsin Capital Ltd., a London-based distressed debt fund. Italian banks were still sitting on around 313 billion euros in doubtful loans at the end of 2016, which amounts to about 15 percent of total outstanding debt. That’s three times more than Spain, which used a 41 billion-euro bailout in 2012 to shore up its own weakest banks.

Steeped in cronyism, dozens of small and medium-sized lenders may still be too entwined with members of Italy’s parliament, unions, and philanthropic foundations to run their businesses in a transparent, prudent and efficient way. There’s little reason to believe the government, which is led by a caretaker prime minister, Paolo Gentiloni, will take on the mammoth task of reforming a business so central to the political economy, Elser said.  

For more on the long decline of the world’s oldest bank

"The problems are not over," said the Rome-based money manager. "Italy is probably going to do what it’s always done and kick the bucket down the road."

While investors are warming up to Italian lenders, it’s telling that even the strongest of the lot, Intesa, received public money to take on Popolare di Vicenza and Veneto, said Federico Santi, an analyst with Eurasia Group. In contrast, Spain’s Banco Santander SA in June absorbed Banco Popular Espanol SA, including its 34 billion euros in bad assets, without state assistance.

"Italy plugged the hole but the underlying issues that have long plagued the system remain," Santi says. "There may be signs of improvement, but there’s still no big leap forward."