Warning - The European Banks

by: Mark J. Grant

What has taken place with the European banks is nothing more than chicanery. There was Banco Popular (OTCPK:BPESY), Tier I Securities at 50, Tier II securities at 70 and in 24 hours; wiped out. The bank was sold to Santander (NYSE:SAN) for 1 euro. No Rule of Law, no Due Process. The value was pegged by the European Union.

ZERO value.

Then there was the Bremer Landesbank. The Financial Times states, "Bremer Landesbank has said it will cancel all interest payments on its most subordinated debt, in one of the first moves of its kind in Europe's market for risky bank bonds." No rights for the bonds holders at all, just a "We're not going to pay, have a nice day" liturgy. Their 9.50 CoCo bonds, according to Bloomberg data, now trade at $77.24 to yield 17.95%.

Now there is Veneto Banca and Banco Popolare di Vicenza in Italy. Both were important enough to be gauged by the ECB to be included in the European bank stress tests and now the Single Resolution Board has declared, according to the Wall Street Journal, that "it wouldn't take action because neither of the banks would have a significant adverse impact on financial stability." There is a head jerker! These people have gone off the cliff.

The Italians have put together a national fund of 22 billion euros for their banks. They have about $350 billion in non-performing loans, according to the Financial Times. They will spend 19 billion euros on these two regional banks, they have stated. They have not even gotten to the resolution of Monte di Paschi yet, which is a far larger institution. Another midsized regional lender, Genoa's Carige, is also considered at risk of being wound down, according to the Financial Times. Who is kidding who here? The Italian government bail-out fund has nowhere near the capacity to deal with a Monte di Paschi bailout, much less one for Carige. Stand by, more institutions are about to get smoked.

The Italian government is selling both banks to Intesa at the price of 1 euro. They are matching the Banco Popular price. Must be some sort of European synergy.

Banks are going on the cheap in Europe these days.

What particularly troubles me is that the EU and the ECB had set rules in place for this sort of bankruptcy. They obviously aren't following their own rules as the two Italian banks are being liquidated under Italian law. So much for what they told bondholders. Convenience, I suppose, is the Mother of European Invention.

What this also means, in my opinion, is that the European banks stress tests cannot be trusted. In the case of the United States the Fed does the tests and there is just one regulator doing them. In the case of Europe, it is the national governments that do the stress tests and the ECB who has oversight. Oversight, baloney, no sight at all, in my opinion.

Blind as a bat!

This also means that the indentures, for ALL bank debt in Europe, including senior debt, can be changed by fiat, at a moment's notice. It could be the SRB's rules that apply or national rules or who knows what, any longer. There is just no way of knowing. The indentures then, the basis upon which bonds were bought, are now devoid of meaning, due to government intervention, and what you think you own, may not be what you own at all. Nothing here but smoke and mirrors so, if you are a European bank bond owner, go look in the mirror:

"You got smoked."

I am sure that we will see the various European leaders congratulating themselves, for how well their system is working. They will "hail" and praise each other for their ingenuity. "Balderdash," is my comment because what they have actually done is lie to bond holders, of all classes. You think the senior debt is safe, fine, I certainly do not! These people, regardless of the comments soon to be made in the Press, I am sure, have not told us the truth.

I wish to specifically point to what the Economist said would happen and what did happen. Pay close attention here as I quote from the Financial Times.

About €4bn in shareholder equity and €1.2bn in junior debt will be kept in the liquidated bank and wiped out, as is required under state aid rules. Retail investors mis-sold about €200m of junior bonds are expected to be compensated.

Read the last sentence again. As an institutional investor, if you own the junior debt, you get wiped out. The Italian investors, who own basically the same class of bonds, get compensated because the bonds were "mis-sold." This is out and out THEFT in my opinion and a very telling sign about the European banking regulations. The EU and the ECB have manipulated the regulations for their own purposes. They have not told us the truth!

There are several things are also likely to happen now, in my estimation. The first round will be the ECB running in to support Italy's sovereign debt and their bank debt by buying both. They probably have already bought the subordinated debt of banks across Europe and will likely continue to do so. This will not hold, in my opinion.

All bank debt in Europe is going to now get re-priced, in my estimation, though maybe not in the first few weeks. I believe this will take place from the most subordinated debt, to the most senior debt, as people and institutions, alike, flee these securities. It is a mistake to own securities that you can't trust. This is a subset of "Grant's Preservation of Capital Rules."

Next, in my view, it is highly likely that the country of Italy is going to get downgraded. One-third of all of the European non-performing loans reside in Italy, according to Reuters. The Italian bank guarantee fund is going to get depleted shortly, with Monte di Paschi and Carige scrambling in the wings.

Either more Italian debt must be added, when their debt to GDP ratio is already at 133%, according to the ECB, or the European Stability Mechanism rules must apply. If it is the later, then equity holders and bond holders, of all classes, will have to bear the burden of any defaults. No one, but the local residents, apparently, will be safe. It has now become obvious that institutional bond holders hold the last place in line.


Ciao Bella!