Spanish banks: set aside reserves, mark down loans, repeat

Rather than recognize all their losses at once, Spanish banks are stuck in a cycle of setting aside reserves to cover losses in one area, marking down the related loans and then repeating for a different area.

Each cycle reminds market participants that there are still losses hidden on and off the banks' balance sheets.

Each cycle confirms why the banks must be required to provide ultra transparency and disclose on an on-going basis their current asset, liability and off-balance sheet exposure details.  Without this data, investors will never believe that the banks have recognized all the hidden losses.

As the Economist magazine observed

In February the Spanish government hoped at last to put an end to worries about lenders’ health when it asked them to set aside billions in provisions and to raise more capital. It also pushed for mergers to reduce capacity and improve margins in an overcrowded market. 

These measures provide some comfort. Spain’s central bank says that since the middle of 2008, banks have set aside €112 billion ($148 billion) against loan losses. 

This year it asked them to set aside another €54 billion in provisions and new capital (although this double-counted some write-downs that had already taken place). 

With these plump cushions, Spain’s banks can shrug off losses amounting to about half of their loans to property developers.... 

As a result of the write-downs, regulators have achieved one objective. Few investors now fret about property-development loans blowing up Spanish banks. The worry now is about all the other loans on banks’ balance-sheets, against which there are almost no provisions...

Take residential mortgages, which have so far held up remarkably well. Less than 3% of residential mortgages have started to wobble, a surprise in a country where unemployment is close to 25%. 

Spanish officials argue that mortgage losses are so low because the loans were mostly issued to creditworthy borrowers with low loan-to-value ratios and no incentive to walk away from their debts.... 

Investors will take some convincing. “People just do not believe the numbers,” says one analyst. “There has been a lot of ‘extending and pretending’ or renegotiation of mortgages.”