There is a reason why Spain's "Bad Bank" has that name (its official designation is far more jovial: SAREB) - because it is full to the brim with "assets", mostly residential loans, that no longer generate cash flows, and which are capitalized increasingly more with taxpayer cash. How much assets? At last check some €50.7 billion. The problem is that since real, documented cash flows from the real economy, not the fake, made up one reflected by various stock indices, are what funds (or don't as the case may be) said assets, the liabilities will soon be in need of more equity infusions. Specifically, there is a total of €50.7 billion in liabilities consisting of senior debt, and an equity capital buffer of €4.8 billion. Alas, this liquidity buffer will hardly be enough as more and more loans are defaulted on and turn "non-pay" (i.e., the rise of NPLs drowns out the "reserve"), while cash has to be paid out - constantly - to satisfy the liabilities cash interest demands.
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So just how bad is the NPL picture for the SAREB? Reuters has the most recent breakdown [13]which is as follows: "Of its loans, only 22 percent are considered "normal"; 34 percent are rated "substandard" and 45 percent "doubtful"." The "normal" loans are linked to finished products which arguable are easier to monetize, and yet there has been zero end-market demand for said "assets" despite a global central bank liquidity injection that has made the global credit carry trade the only game in town. The reason there is no interest is that there simply is no chance these assets will generate the needed cash flows to make any cash on cash return a possibility:
Most of the loans are linked to finished properties, for which it might be easier to find a buyer, but 4.3 percent are for unfinished developments and nearly 10 percent are for empty lots, for which there is little or no demand. Nearly all of the foreclosed properties in its portfolio are empty, including apartment blocks far outside big cities. Only 6,000 of nearly 83,000 housing units have tenants.
Keep in mind that in Spain, unlike the US, mortgages are recourse [14], and thus walking away from one is far more complicated than it is in the US. It means the bank can "pursue and pursue" the borrowers until it gets paid back in full.
Most importantly, it also means that by the time a borrower is in default on their mortgage, they have already defaulted on virtually all other debt in their possession, very much unlike in the US where defaulting on one's mortgage is usually the first thing a financially troubled household will do.
The logical next step is what has been clear since last summer when Spain announced the first bailout of its banking system: what it has provisioned for future losses will be far less than the final shortfall. From Reuters:
Spain's bill to bail out its banks may yet rise, some bankers and analysts fear, as a worsening economy hampers the government's early attempts to sell off nationalized lenders and threatens the "bad bank" housing their rotten property deals.
The 8 percent capital cushion may however be too thin to withstand losses without a top-up, which could be hard to source from the private sector, said several senior Spanish bankers and investment bankers who have worked with the government.
"It was a big mistake. The government is going to have to take over the entire vehicle sooner or later," said a Spanish banking executive, on condition of anonymity, echoing a view from three other senior bankers.
If the liabilities of the bad bank, known by its Spanish-language acronym Sareb, were to be put on the state's balance sheet, it could add up to another 5 percentage points of GDP to the country's debt, pushing it to more than 100 percent of annual output. Spain's economy ministry declined to comment.
What is most ironic, and shows just how short-sighted market "thinking" has become, is that while no one is willing to purchase the SAREB's NPLs outright, they are more than happy to buy them indirectly when covered by Spain's "sovereign" wrapper, which in turn is funded by an implicit German guarantee. Because should Spain fail to fund its deficit and its insolvent banking sector, the Euro is done. And while it is unclear if German resentment of a periphery which has now officially declared austerity dead and buried, is enough to tell it there is no longer any guarantee to fund a profligate lifestyle, what is clear is that the deteriorating Spanish economy will need much more capital to funds the rug under which it has so far swept the bulk of the financial biohzarad in its economy.
Sareb does have a contingency plan for shoring up capital, which involves restricting eventual dividend payments to shareholders, the source said. Otherwise fresh capital will have to come from investors - the state, or sound banks, some of whom had came under pressure from the government to invest.
A spokeswoman for Sareb said "the contingency plan is the sales plan", which entails selling almost half of assets over the next five years and paying down half of the debt.
Sell NPLs to whom? Not even Japan is (hopefully) that stupid, and this despite being able to fund Spanish purchases at absolutely zero cost courtesy of the BOJ's latest monetary expansion.
While most banks maintain they have stocked up on enough capital to counter growing provisions for losses, a handful of analysts still believe some will have to do more to ward off problems outside the real estate realm.
The Bank of Spain on Tuesday tightened the rules on how banks classify bad debt in cases of refinancing, in a move that could force lenders to recognize more bad debt.
Ratings agency Moody's had forecast last October that banks had a 100 billion euro capital gap, rather than the 54 billion euros projected by Oliver Wyman in its stress test.
"Despite all the developments, it's difficult to see that all of that 100 billion euros is cancelled out," Alberto Postigo, analyst at Moody's, said.
Actually the final number will be far worse. The reason, as in the case of Cyprus, as in the case of Slovenia next, as in the case of every European country where the broader population is increasingly shifting to the shadow economy, is a simple and recurring one: non-performing loans. And as the following chart from BofA shows, when one strips away all the shiny veneer, the real problem in Europe is only getting worse.
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