UPDATE 1-ECB rules seen hitting Spain's savings bank

(Adds buyers of Spanish assets in last paragraph)

By Elena Moya

LONDON, Sept 4 (Reuters) - Spanish savings banks, such as Caja de Ahorros del Mediterraneo, are likely to be hit hard by new European Central Bank (ECB) rules to tighten its lending to banks, market and banking sources said on Thursday.

Spanish savings banks and other financial institutions have rushed to the ECB over the past few months in search of funds, after the credit crunch and a domestic real estate crash decimated investor demand for asset-backed securities.

Savings banks, which are non-profit lenders, accounted for almost 70 percent of the total growth in funds borrowed by Spanish financial institutions from the ECB since last year, according to a research note from Banco Santander.

The ECB on Thursday unveiled tougher rules on the assets banks can submit as collateral after concern the rules were open to misuse [ID:nL4331226]. Financial institutions will now have to put up more collateral to borrow the same amount.

"The access to ECB funding is more expensive and this complicates the lives of the savings banks that already had problems," said Olga Cerqueira at Moody's in Madrid.

For instance, if 102 euros worth of asset-backed securities were needed to borrow 100 euros in the past, the figure could be now as high as 116 euros.

Spain-based financial institutions borrowed 49 billion euros ($71.14 billion) from the ECB as of July, up from 18 billion over the same time last year, according to Bank of Spain's data.

In total, the savings banks accounted for 4.4 percent of the total amount borrowed from the ECB across Europe, up from 0.9 percent last year, according to a Santander research note issued on Thursday. Regular Spanish banks increased their representation to 5.6 percent, from 4.6 percent.

DEVELOPING REGIONS

Savings banks -- unlike regular banks -- have not diversified their operations by investing or expanding abroad, meaning they will be harder hit by the new rules.

But while the tightening meant higher costs, there was no immediate risk of a collateral shortage, said a source at Spain's central bank.

"In economic terms, this is not relevant. No Spanish institution will find itself with insufficient collateral when this new regulation becomes practise."

Spanish savings banks were established in Spain to help develop regional economies and do not have an investor ownership structure like regular banks. Their boards reflect the political forces in the region, and the chairman is usually appointed by the regional party in power.

This lack of accountability to financial shareholders has made them less strict than banks when it comes to lending, banking sources say.

"Savings banks have been less diligent than banks in their lending," one banking source said, requesting anonymity.

"Banks have owners who oversee the lending, but in the savings banks, it's the regional government that's really in power."

Caja de Ahorros del Mediterraneo (CAM) (CAHM.MC), a savings bank in the Valencia region, has been put on a watch list by ratings agency Standard & Poor's, which said it could downgrade the bank by as many as two notches because of the fast deterioration of its asset quality.

Savings banks may suffer more as the Spanish economy heads toward a recession and as rising unemployment is likely to translate into more mortgage defaults.

Banks also face further losses as, if turned down by the ECB, they are forced to sell assets in the open market -- at a lower price.

"Everybody knows the problems that Spain faces, so when they go out in the market, they will face tight financing," the banking source said.

A typical new Spanish residential mortgage-backed security (RMBS), for example, will price at around Libor plus 30 basis points for Triple-As, whereas Spanish RMBS in the secondary market can trade at levels anywhere between Libor plus 170 to 350 basis points.

Spanish savings banks such as CAM have had to delay planned sales of non-performing loans as the asking prices haven't been low enough to attract investors.

Lehman Brothers, Carval or Apollo are amongst the distressed investors that have recently purchased Spanish distressed assets at a significant discount.

(With additional reporting by Paul Day in Madrid and Natalie Harrison and Steve Slater in London; Editing by Erica Billingham)