Two days ago we reported that in a last ditch effort to prevent potential contagion within its banking system, one including bank runs and furious ordinary investors and depositors, ahead of Friday's stress test announcement which Italy's troubled Monte Paschi is widely expected to fail, Matteo Renzi's government was racing to organize a private bailout of the insolvent bank. Specifically, as of Monday night, the Italian government was, according to the FT, racing to secure a privately backed bailout of Monte dei Paschi di Siena, including a plan to raise €5 billion of fresh capital so as to avert nationalisation.
There was no assurance this last ditch effort would succeed, especially in light of Monte Paschi's market cap which has dropped to a paltry €800 million, suggesting that the bailout would be an effective "out of court" bankruptcy, structured as a quasi investment, with fresh money coming in from the new equity owners diluting existing stakeholders over 90%.
There was also no assurance that any new funds would not meet the same fate as the €8 billion in capital already raised over the past two years, money which has since "vaporized" in the seemingly endless hole of Monte Paschi bad debt.
Moments ago, we learned that this "private bailout" process appeared to be on the rock, when Reuters reported that Morgan Stanley and Italian lenders UniCredit and Intesa SanPaolo have walked away from Monte Paschi's "proposal" to back its proposed €5 billion cash call, "a source familiar with the matter told Reuters."
As Reuters confirms the original story, "the troubled lender is trying to pull together a banking consortium to guarantee its proposed capital increase in the next 24 hours so it has a plan in place by the time the results of the European bank stress tests are released on Friday evening. Banking sources say the tests will show the bank has insufficient capital to withstand an economic downturn."
Monte Paschi is not doomed just yet, as the process has so far received interest from Citigroup Bank of America, Deutsche Bank and Credit Suisse. Not surprisingly, the last two banks are the ones who stand to lost the most should an Italian banking crisis flare out and spill across the border with either Germany or France.
As Reuters adds, other banks including Societe Generale, UBS and Nomura are currently being contacted in a bid to share the cost of the proposed transaction which is said to involve Monte dei Paschi issuing stock at between 0.5 and 0.6 percent of its tangible book value, the source said.
However, it is not looking good, and Reuters' source adds that "As things stand now, the consortium is weak. More banks need to come onboard." Another source, who is close to the Tuscan lender, said Monte dei Paschi is expected to release the guidelines of its rescue plan on Friday and is confident of reaching a pre-agreement with a sufficient number of banks "in due time."
While we appreciate the optimism, we wonder if Italy is prepared for the alternative, namely the much dreaded "bail in"?
We are confident the answer is no, for a simple reason: the last thing the increasingly unpopular Matteo Renzi government, which itself is facing a referendum in three months, can afford is more public anger stemming from the bail-in of the third biggest Italian bank, one which may spread to other, equally distressed, lenders.
The problem, as Bloomberg wrote in an article earlier today, is that should Italy take the bail in route, millions of ordinary mom and pop investors could see a complete wipe out on their investments. Consider that at the zenith of the financial crisis, between July 2007 and June 2009, 80 percent of Italian banks’ bonds were sold to retail investors, according to regulator Consob. Through savers, banks funded themselves at a similar cost to the Italian government, whereas they gave professional money managers an extra percentage point in debt interest, the 2010 report found.
Those doing the "funding" were people like Vincenzo Imperatore.
Vincenzo Imperatore wants you to know he was just following orders: Selling risky bonds to customers seeking safe retirement nest eggs was only part of the job. When financial markets shut during the financial crisis, depositors were Italian banks’ most reliable source of funding. “I was getting five, six calls a day from my bosses pushing me to sell them,” says Imperatore, who helped sell products to retail customers for six years at UniCredit SpA in the Naples region and has written two tell-all books about his experiences. “I was instructing the local salesmen to do the same.”
And as documented extensively here, should Italy proceed with more bail-ins, the households that helped prop up the nation’s banks during the crisis are again on the front line of efforts to bolster Italy’s tottering financial system. The subordinated debt they hold may be first to take losses in a government-orchestrated recapitalization now being negotiated in Rome and Brussels.
"It’s a popularity-destroying outcome Prime Minister Matteo Renzi is trying to avoid before a referendum later this year to overhaul the political system -- a vote he needs to win to stay in power."
The amount of retail exposure is anything but trivial. Retail investors own almost half of the most vulnerable securities, a legacy of banks using their customers as a piggy bank for cheap funding.
Selling subordinated debt to depositors was “the way they recapitalized the banking system,” according to Jim Millstein, the U.S. Treasury official who led the restructuring of U.S. banks after the financial crisis, said in a Bloomberg TV interview. By imposing losses on bondholders “you’re inflicting damage on the people who would otherwise be spending money in your economy,” he said.
UniCredit, Italy’s largest lender, declined to comment on Imperatore’s recollection. The bank’s subordinated bonds available to retail investors trade close to par, indicating investors don’t expect to suffer losses, Bloomberg data show. The bank is considering raising as much as 5 billion euros ($5.5 billion) from shareholders and selling its entire stake in Poland’s Bank Pekao SA to raise capital, people familiar with the matter said on Wednesday.
Unlike their fellow Europeans, Italians favor fixed income for their savings. According to Bloomberg, they held about €430 billion of bonds at the end of 2015, two-and-a-half times more than Germans and three-and-a-half times as much as Britons, according to a report by Assogestioni, a Milan-based investment industry association. Historically, government debt was among the few instruments that safeguarded savings from rampaging inflation. The average interest rate on new issues of Italian sovereign bonds was 14 percent in 1992. It dropped to 3.7 percent when the euro was launched a decade later, according to data from the Ministry of Economy.
The bigger issue for Renzi is the dire public reaction that will follow if Monte Paschi is forced to be bailed-in, and if this results in contagion spreading to other banks, slamming their junior securities in kind.
It wouldn't be the first time.
A retired school custodian in Urbino, central Italy, who asked not to be named, saw 112,000 euros in Banca Marche subordinated bonds, a large part of its life savings, wiped out. He said that the bank convinced him to swap senior notes into subordinated bonds in 2007. He realized he’d lost it all only when, alarmed by news of the bank’s imminent insolvency, he asked for more information at the local branch last year.
As BBG notes, bondholder losses became a hot topic last year when the national media covered the suicide of a pensioner near Rome after he discovered he had lost more than 100,000 euros in Etruria’s junior debt in December.
Later in December, the European Commission supported Renzi’s plans to compensate bondholders for “potential misselling of bonds.” The government approved a decree in April to let bondholders of the four failed lenders banks be reimbursed for as much as 80 percent of their holdings if they have gross annual income of less than 35,000 euros or personal assets of less than 100,000 euros.
“It is strikingly similar to what banks did before with Argentina and Parmalat,” said the lawyer Bisello. “Many of my clients are factory workers, pensioners, who lost all the savings they had. Some of them were told that investing in subordinated bank bonds was just a way to earn higher interest, but just as safe as investing in Italian government bonds.”
The bottom line: if over the next 24 hours Monte Paschi is unable to obtain the needed €5 billion in funds it needs from a consortium of outside investors, and if Europe remains resolute in its denial of a government-backed bailout, the only possible step would be a bail in, one which could spark the next leg of Europe's banking crisis.