Italy's small banks frozen out of bad loan scheme

* Italian NPL scheme misses mark for small banks

* High costs, complex rules designed for big lenders

* Framework could push bank consolidation instead

LONDON, Feb 26 (IFR) - Italy’s bad loan securitisation framework is expected to be too costly and complex for smaller banks, providing little relief to the most vulnerable lenders in its troubled banking sector.

The government guarantee scheme, known as GACS in Italian, aims to help banks sell off some 201bn in non-performing loans (NPLs) into securitisation vehicles.

But market sources warn that only large Italian lenders will ultimately be able to make use of the elaborate structure, and it is Italy’s small lenders that are most in need of assistance in clearing their backlog of bad loans.

“Smaller banks who are not in a position to do this will just ignore the new framework,” said one Italian banker. “It’s not going to change anything in the sector.”

In a country with some 588 banks, by the European Banking Federation’s count, all but few largest players will be shut out of the new mechanism.


The Italian government settled on the new scheme last month, announcing that it will guarantee the senior parts of NPL securitisations using a basket of credit default swaps to set a “market price”.

The structure successfully tiptoes around new EU state aid laws, which restrict governments from helping banks achieve better terms than those prevailing in the market, but many are sceptical that it can actually work in practice.

Last week, authorities partly addressed market concerns by tweaking a waterfall structure that would have made it extremely difficult to sell the riskier parts of these new deals.

But questions remain whether the guarantee framework is attractive enough to push banks into securitising their NPLs in the first place.

The scheme aims to bridge the yawning gap between the book and market value of NPLs, which banks value at around 40% of par but are only worth 20-25% in the market, according to Moody’s.

BNP Paribas credit analysts believe the scheme could boost valuations by five cents on the euro, but one senior NPL banker said the costs of servicing the pool and buying the guarantee are expected to be roughly 200bp to 300bp.

For smaller banks, this steep fee would fundamentally wipe out any gains on the valuation of the portfolios, sources said.

“In many cases it might prove to be more practical and just as good value to them to sell the loans in an auction to a specialist buyer who has a servicer - as long as they are realistic on what the valuation is,” said Adrian Cloake, chief investment officer at LCM Partners.

“It’s probably more appropriate for the bigger names and not necessarily a tool for the smaller, regional banks who might struggle to get to the required data quality and scale.”

Banks will have to provide ratings agencies with robust data on the underlying loans in their portfolios to secure the required credit rating to securitise their NPLs.

While large lenders like UniCredit and Banca Monte dei Paschi di Siena are well positioned to do this, smaller banks often lack the necessary documentation.


Its complexity and cost could force small lenders to snub the guarantee scheme and try to sell loan portfolios directly to distressed debt buyers instead.

“They will do what they did in the past and continue selling their loans,” said another Italian banker. “Year by year, they will slowly sell down their NPL portfolios.”

But the pace at which lenders are disposing of their bad loans has so far been painfully slow.

Italian banks sold non-performing loans with a nominal value of 18.8bn last year, according to KPMG data, although this mainly consisted of unsecured retail debt rather than the secured portfolios most NPL investors are eyeing.

The volume of bad loans is mounting fast, meanwhile, with the backlog of NPLs growing from 125bn in 2012 to 201bn in November 2015.

“At the speed of last year, it’s going to take us years,” an NPL investor said. “From a regulatory standpoint, they have time. The question is: are investors giving them time.”

Some in the market have seen the new scheme as a roundabout way of pushing banks to merge, after years of unsuccessful attempts by the Italian government to consolidate the sprawling banking sector.

“Now it’s clear that there won’t be an Italian bad bank,” Norman Pepe, partner at RCC with a focus on banking, securitisation and NPLs.

“The next step will probably be some sort of consolidation of banks. In this context, the smaller banks will eventually be able to use the GACs.” (Reporting by Mariana Ionova, editing by Robert Smith and Alex Chambers.)