LONDON, Aug 31 (IFR) - Spain is beginning to lose the
support of its banks as last-resort buyers of government debt,
with lenders selling out of their holdings at the fastest pace
in more than two years in July, ratcheting up pressure on the
European Central Bank to step in and put an end to the country's
burgeoning debt crisis.
The sales are a blow to Madrid, which was increasingly
reliant on domestic banks to buy its debt after an exodus of
foreign investors. Domestic lenders, under political pressure to
support the sovereign, used cheap loans from the ECB to buy an
extra EUR87bn of debt between December 2011 and March this year.
But that support has begun to ebb, with Spanish banks
selling over EUR17bn of debt since then, according to ECB data.
In July alone, domestic lenders reduced their holdings by
EUR9.3bn, in part to meet an outflow of deposits, signalling
that money is now too tight to support the sovereign.
"The spike in yields that we saw in July is consistent with
deposit outflows and a local sell-off of sovereign paper," said
Sohail Malik, senior portfolio manager for European Credit
Management's special situations team. The firm has USD9.5bn in
assets under management. "Ultimately, you need one entity to
assume a huge amount of supply and that can only be the ECB."
Yields on Spanish 10-year government bonds hit a euro-era
record high of 7.7% in July. While they have since come down
after ECB President Mario Draghi signalled the central bank
might be willing to buy Spanish debt, there are as yet no
concrete plans for a rescue. The ECB meets again this Thursday.
"We saw some improvement after the Draghi speech, so the
rally must have been backed up by opportunistic hedge funds and
trading books of banks," said Malik. The yield on 10-year debt
is currently about 6.6%. "But the endgame is that we need an
entity to absorb a huge amount of supply."
Madrid is planning a further seven debt auctions before the
end of the year, the next coming on Thursday. The sovereign has
already completed about two-thirds of its planned EUR86bn of
debt issuance this year, but the final slog could be difficult
if the ECB fails to buy and domestic banks continue to shrink
Spanish banks are facing problems of their own. Data
released last week showed that customers withdrew EUR74bn of
deposits in July alone - equivalent to 4.7% of total deposits
and the biggest monthly outflow since records began. Since June
last year, clients have withdrawn EUR233bn (see chart), or 13%
of the total then.
A need to raise cash to meet those withdrawals may have
prompted the recent bond sales, as other assets owned by banks -
mainly loans and mortgages - are far less liquid. Spanish bank
bond holdings are dominated by Spanish government debt, but also
include those of other countries.
Foreign banks and other investors are also showing few signs
of increasing their purchases of Spanish sovereign debt. BNP
Paribas, the second-biggest bank in the eurozone and one of the
biggest holders of government debt from the region, recently
announced plans to impose limits of EUR10bn per country to
reduce its exposure.
"We need to have a portfolio of sovereign bonds; that isn't
something we will change," executive board member Alain Papiasse
told IFR. "But, given new regulatory constraints, holding some
government debt can hurt our capital ratios. For that reason we
globally reduced our exposures by 35% since June 2011."
Treasurers and senior bankers at other European lenders say
either they have introduced similar limits already or they
intend to do so. That will restrict their ability to buy foreign
government debt, even if fundamentals improve or prices prove
"It's completely rational to be limiting your exposures to
each of these countries given the uncertainties still out
there," said one head of financial institutions for EMEA at a US
investment bank. "It is what I would do if I were in their
Spain does seem to be a unique case, however. Banks in other
eurozone countries have largely left their government bond
holdings intact in recent months, according to ECB data -
although French banks did reduce their holdings by EUR6.9bn in
July. Italian banks actually increased their holdings by
All eyes will now be on Draghi this Thursday for any details
of a possible bond-buying programme for Spain and others. After
the August meeting, he said: "The Governing Council, within its
mandate to maintain price stability over the medium term and in
observance of its independence in determining monetary policy,
may undertake outright open market operations of a size adequate
to reach its objective."
(Reporting By John Geddie and Gareth Gore; Editing by Owen