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Spanish banks, with lowest capital levels in Europe, brace for bad-loan rise

Bad loans are coming back to haunt Spanish banks, with problem debt likely to stack up toward the end of 2020 and into next year, according to analysts.

Amid COVID-19, corporates will face difficulty repaying loans and bankruptcies will mount, particularly for small and medium-sized businesses which, according to Moody's, account for 42% of Spanish bank lending.

And a second coronavirus-related lockdown, should it occur, would be particularly damaging for Spain's big banks, whose capital levels are the lowest among European lenders.

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The economic impact of the crisis strikes as lenders had been making headway in untangling large amounts of toxic debt inherited from the global financial crisis.

The country's nonperforming loan ratio stood at 3.14% at the end of 2019, compared to 6.74% in Italy and 6.14% in Portugal, two other European countries hit by high nonperforming loans following the crisis.

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Gross NPLs and advances as a percentage of total gross loans and advances fell to 3.14% in the fourth quarter of 2019, down from 7.67% in the first quarter of 2015, according to S&P Global Market Intelligence data.

Elena Iparraguirre, credit analyst at S&P Global Ratings, said she expected nonperforming assets, including NPLs and real estate assets, to peak at 9.5% in 2021, up from an expected 8.5% in 2020.

READ MORE: Sign up for our weekly coronavirus newsletter here, and read our latest coverage on the crisis here.

Spanish banks will report second-quarter earnings in the week of July 27, but Iparraguirre said the full impact on bad loans ratios will become clearer in the coming months, as borrowers are currently supported by loan holidays, and fiscal and government measures.

"We will know how much is the actual damage on borrowers, how many will make it and continue their businesses, and which ones will have more problems," she said.

Spain was one of the European countries hardest hit by the virus, with 28,429 deaths as of July 24, according to U.S.-based John Hopkins University. The government initiated a €100 billion loan guarantee scheme early in the crisis to help businesses, while banks have granted loan holidays.

NPLs at the largest Spanish banks — Banco Santander SA, Banco Bilbao Vizcaya Argentaria SA, CaixaBank SA, Banco de Sabadell SA and Bankia SA — fell slightly in the first quarter as the impact of the crisis had yet to materialize. At Santander, the first quarter ratio fell to 3.66% from 4.03% in the first quarter of 2019, while at CaixaBank it declined to 3.97% from 5%. At BBVA, it dropped to 3.98% from 4.35% year on year. For Banco de Sabadell and Bankia, the ratio fell to 4.02% and 4.89% from 4.37% and 6.13% respectively.

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Banks take three months of nonpayment to declare a loan nonperforming, so there will be a lag in reporting NPLs, said Santiago Carbó, professor of economics and finance at Catedrático de Economía y Finanzas, a Madrid-based university. He predicts the bad loan ratio will rise to 9% by 2021.

Despite selling off stocks of bad loans, banks still carry a significant number which could weigh on profit and spell trouble in the future, he said. Current market conditions will make it difficult for banks to offload remaining problem debt, he added.

Spanish banks will likely increase their provisions in the coming months, to take into account expected loan losses. BBVA already announced large provisions in the first quarter.

"BBVA was the exception among the Spanish banks because it took the most conservative approach and a big provisioning effort in the first quarter," Iparraguirre said. The other banks will book further provisions in the second quarter and potentially in the third, she said.

The European Banking Authority anticipates the entire European banking sector will face rising bad loans, with credit losses amounting to 3.8% of risk-weighted assets, which determine how much capital a bank should hold.

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Spanish banks have the lowest capital levels among large European lenders, according to S&P Global Market Intelligence data. BBVA has the lowest, having been unable to cancel its dividend payout for 2019 as it held its shareholder meeting before the ECB recommended banks did not distribute dividends to boost capital. Santander is second from the bottom.

"They have larger capital buffers and are in better shape than 10 years ago, but there are some troubled waters ahead," Carbó said. Provided there is no second wave and subsequent lockdown, they should be able to cope.

In the case of a second lockdown, already troubled SMEs, particularly in the tourism sector which accounts for around 15% of Spain's businesses, "will not survive; they may survive the first blow, but the second, no way," he said.

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