The Ministry of Economy and Competitiveness and the Bank of Spain have today received two individual reports from the two independent evaluators, Roland Berger and Oliver Wyman, on the Spanish financial sector. The tests result in recapitalization needs of between 16,000 and 26,000 million euros in the base scenario of stress exercises, and between 51,000 and 62,000 million euros in the adverse scenario. The analysis has been carried out on 14 banking groups, 90% of the sector, and although the exercise does not allow making prior estimates of the capital needs of each entity, it can be anticipated that the three largest companies in the sector meet capital requirements even in the face of a hypothetical severe worsening of the Spanish economy. The greatest deficiencies are focused on the entities in which the FROB has a majority stake. The rest of the entities could assume their capital needs by themselves or with a moderate level of public aid.
This is a first and comprehensive exercise in transparency, based on the evaluation of the entire credit portfolio of the entities, as a previous step to an individualized analysis of the balance sheets by four auditing companies to be concluded in the coming weeks. It responds to the Government's decision to give confidence and security in the Spanish financial system within the European commitments. The amount of recapitalization needs is manageable, it is limited and, in any case, it is below the 100,000 million euros of the credit line agreed with the Eurogroup on June 9.
Background
The Council of Ministers agreed on May 11 to commission the Ministry of Economy and Competitiveness to analyze the resistance of the Spanish financial sector in the event of a possible deterioration in the economic situation. Subsequently, the Bank of Spain, in coordination with the Ministry of Economy and Competitiveness, decided to hire Roland Berger and Oliver Wyman as independent consultants to carry out this evaluation.
In accordance with the established schedule, the two evaluators have completed their analysis and today informed the Bank of Spain and the Ministry of Economy and Competitiveness of the results. The stress test is complementary to the one recently carried out by the International Monetary Fund (IMF). The two firms have also published a detailed report on the test carried out, the methodology, the models and the hypotheses formulated.
Methodology
Each of the exercises is applied to 14 Spanish banking groups, which represents around 90% of the system. The aim is to assess the sector's resilience in two macroeconomic scenarios to maintain a capital ratio in accordance with the EBA (European Banking Authority) criteria. The fiscal year calendar covers three years: 2012, 2013 and 2014. The valuation extends to the credit portfolios of the resident private sector, including real estate assets. The data takes the balance as of December 31, 2011 as a reference.
This is an additional test to that carried out by the IMF (FSAP), published on June 9. In the new evaluation, the macroeconomic scenario used is more adverse and conservative; the time period is extended for one more year and includes consultants' hypotheses about refinancing, loan reclassification and quality of guarantees. In line with other stress tests carried out in the European Union and to facilitate comparison, the requirement for the Tier 1 core capital ratio has been set at 6% for the adverse scenario and 9% for the base scenario.
The macroeconomic scenarios as well as the capital references have been decided by the Management Committee, made up of the Ministry of Economy and the Bank of Spain, taking into account the recommendations of the Advisory Committee, formed by the European Commission, the European Central Bank ( ECB), the EBA, the Bank of France, the Bank of the Netherlands and the IMF.
The work methodology for carrying out the stress exercises is based on the models, assumptions and hypotheses of the contracted consultants. In order to calculate the resistance of the banking sector, the expected loss in their credit portfolios has been taken into account after the impact of the macroeconomic scenarios used and the risk assumptions and parameters of the contracted firms. The capacity to assume losses due to the generation of profits of entities and capital buffers has also been assessed.
Results
The reports published by the two consultancies include an estimate of the capital needs for Spanish banks. On the base stage, and with a core Tier1 9%, capital needs would be between 16,000 and 26,000 million euros. Under the adverse scenario, with a core Tier1 minimum of 6%, the needs would be in a range of between 51,000 and 62,000 million euros. These figures are conservative, since they do not take into account mitigating effects such as future actions that banks may take or fiscal elements.
The current exercise does not allow making prior estimates of the needs of each entity, but it is anticipated that the three main Spanish banking groups will not need additional capital in the face of a severe worsening of the economy (adverse scenario). The recapitalization will focus primarily on those entities that are participated in by the FROB. The needs of the rest of the sector would be less important or null. Capital requirements that could not be covered by market mechanisms would, in any case, be assumed by the FROB. The results of this exercise confirm the recent conclusions of the IMF, which pointed out that the problems of Spanish banks are limited to a small group of entities, on which the State is already acting.
New performances
In parallel to this process, the four auditors hired by the Banco de España (Deloitte, Ernst & Young, KPMG and PwC) have been working since the end of May on the exhaustive analysis of the banks' portfolios, which they must present on July 31 . With this exercise they will verify the real situation of each one of the entities, with special attention to the correct classification of loans, both by business segment and by their rating (current payment, risk of default or delinquent) and levels provisioning of each of the portfolios. The work of these auditors will be used to build a more comprehensive and detailed exercise (bottom-up) of the balance sheets of the entities. This analysis is expected to be completed in September.
The work of the audit firms and the more detailed information on the risks in the banks' portfolios will be the basis of a new round of stress tests, which will allow identifying the specific capital needs of each of the entities. The result of this individualized evaluation will be published in mid-September. Following that announcement, banks will be required to submit their detailed recapitalization plans in a short time. Entities that cannot assume them alone will be able to access the FROB with the required conditionality.
The final results will make it possible to differentiate banks that need recapitalization and those that need to be restructured, always in accordance with EU rules and procedures. During this period, all the agreements that are necessary to implement this global strategy will be closed, including those related to European financial aid and Community rules on state aid.
For additional information, see the following links:
- Roland Berger's Report: www.bde.es
- Oliver Wyman's report: www.bde.es
Macroeconomic scenarios (see attached news)