* Thousands of small investors lost money in rescue of four banks
* Renzi’s government, regulators face mounting furore
* Italy case a foretaste of possible consequences of new EU rules
By Stefano Bernabei and Valentina Za
MONTECATINI TERME, Dec 21 (Reuters) - Whenever retired tailor Meri Giannoni spoke to the director of her bank branch about how to invest her savings, she said to him: “Please treat me as if I were your mum.”
So when in June 2013 he recommended she buy 30,000 euros ($32,500) of junior bonds sold by the bank, she said she signed the papers even though she did not understand them and never read prospectuses warning the investment could be risky.
“There was a good atmosphere at the bank, it was friendly,” the 67-year old told Reuters at her family house in Montecatini Terme, a small Tuscan town known for its spa. “The director told me: this is good stuff, it’s the bank’s own bonds, relax.”
Last month, the value of the bonds was wiped out overnight as the government saved Giannoni’s bank, Banca Etruria, and three other small lenders from bankruptcy under tougher European Union rules that require shareholders and holders of junior or subordinated debt to shoulder some of the pain in a bank rescue.
A spokeswoman for Banca Etruria, which is now a new legal entity after the rescue scheme, said it was not responsible for actions carried out under its previous management. The bank’s former top executives and board members were removed when it was placed under special administration in February.
When contacted by Reuters, former Chairman Lorenzo Rosi denied any wrongdoing, without elaborating.
Banca Etruria and the three other banks operate in central Italy, a stronghold of Prime Minister Matteo Renzi’s centre-left Democratic Party, and the opposition has accused him and the market regulators of failing to protect the 12,500 small savers who bought 430 million euros in junior debt.
Company subordinated bonds can appear attractive to investors because they usually offer higher interest rates than other bonds, however they are also more risky because, in the event of bankruptcy, they get repaid only after senior debt holders and other creditors have been reimbursed.
One pensioner hanged himself after his life savings were wiped out, while retail investors like Giannoni have staged vocal protests to ensure their battle remains in the public eye.
The governor of the Bank of Italy, which is responsible for overseeing Italian banks, said on Sunday it had done all it could to expose the financial weakness of the four lenders over several years.
Market watchdog Consob, which has to make sure investors are properly informed when they buy financial products, said sale prospectuses for junior bonds always detailed the risks.
Renzi has said some of the bonds might have been mis-sold, and has set up a 100-million-euro compensation fund. Regulators are now calling for a ban on the sale of junior bank debt to retail investors.
Swelling public anger against the government and regulators reflects the political risk faced by Europe after it decided to alter the rules governing bank rescues.
In previous bank bailouts - such as in Ireland in 2010 - the brunt of the cost was born by taxpayers. Since then European policymakers have gradually made investors and creditors share the cost of a financial crisis that has exposed the deep problems of some smaller European lenders.
From Jan. 1, more of the new EU rules aimed at shielding taxpayers will be phased in, meaning even senior bondholders and holders of current accounts above 100,000 euros will be hit if a bank fails, before public money can be used.
Italy shows the public backlash can be severe.
Many of those hit were not sophisticated investors and say they did not fully understand what they were buying.
“I’ve only had a primary school education, so either someone tells me ‘if something happens to this bank you’re not going to get your money back’ or I don’t get it,” said Giannoni, clutching a plastic folder full of bank documents packed with technical jargon. “That subordinated word meant nothing to me.”
The director of her bank branch, who has since moved to a different city, declined to comment when contacted by Reuters, only saying: “The situation is very delicate.”
The losses suffered by small investors are also shaking one of the deepest foundations of Italy’s economic system: a network of tiny banks that for decades have served not only as financiers but as advisers for families around the country.
Despite some industry consolidation, Italy has about 650 lenders - one of the highest number in Europe - according to European Central Bank data.
Several people, some of them in their late 80s, who saw their savings vanish in the bank rescue told Reuters of bank directors calling them at home to suggest new investments, and of being on first-name terms with staff at their local branch.
When Banca Etruria was placed under special administration after a Bank of Italy audit found 2.8 billion euros of bad loans and capital levels below regulatory requirements, 45-year-old housewife Sonia Rigatti grew worried.
“I asked if the bank could go bust. They said my position wasn’t risky and that no one here has ever seen a bank fail,” said Rigatti, who lost 27,000 euros in junior bonds she had inherited from her father.
Authorities have said the rescue of the four banks - Banca Etruria, Banca Marche, Carichieti and Carife - drawing 3.6 billion euros from a fund financed by the country’s healthy lenders, averted even bigger losses for their retail customers.
The government rushed through the rescue package on Nov. 22, before the extra regulation takes effect, because it feared that a full bail-in of the banks would have triggered a bank run. But it was still forced to impose losses on some retail investors after the European Union rejected an alternative scheme that would have spared them, saying it violated EU state aid rules.
Italian banks have long tapped the huge private wealth of domestic retail investors to sell them their own debt.
During the euro zone crisis, when most Italian banks were shut out of international funding markets, retail bonds became an even more crucial source of financing.
In 2012, Italian households held more than 370 billion euros of these notes, Bank of Italy data shows. According to financial advisory firm Consultique, some 60 billion euros of junior bank bonds are currently outstanding.
Banca Etruria has become the focus of the mounting furore as it is the only one of the four banks to be listed on the stock market - so in theory should have been subject to more stringent controls. It also sold the highest amount of retail bonds.
Prosecutors in the Tuscan town of Arezzo, where the bank has its headquarters, have opened an investigation for possible fraud after consumer associations filed a complaint on behalf of retail investors, a senior judicial source said.
Consumer groups have also asked prosecutors to look at the role of Consob and the Bank of Italy, because the banks in question continued to sell junior debt to their own customers even when the authorities knew they were in bad shape.
In 2013, Banca Etruria launched a 100-million-euro capital increase and sold 107 million euros in subordinated debt even as Bank of Italy inspectors combed its accounts between March and September of that year.
In a confidential letter to the bank’s board after the inspection, seen by Reuters, Bank of Italy Governor Ignazio Visco said that the central bank had already found problems with Banca Etruria’s loan book in 2002, and that management had repeatedly ignored its requests to mend its balance sheet.
He called the decline of the bank “irreversible” and urged it to find a buyer.
The Bank of Italy declined to comment on the letter, saying it had nothing to add to Visco’s comments on Sunday.
On June 13, 2013, eight days after Giannoni bought her 30,000 euros of subordinated bonds, Consob approved a 35-page addition to the prospectus for those notes, written by Banca Etruria, that warned about the continuing deterioration of the bank’s bad loans.
In December Consob approved a second, 48-page, addition to the prospectus, also warning about additional risks. In both cases, customers who had already bought the bonds had two working days to pull out.
Half a dozen customers interviewed by Reuters said they had no inkling of that option.
$1 = 0.9230 euros Additional reporting by Silvia Ognibene; Writing by Silvia Aloisi; Editing by Crispian Balmer and Pravin Char