Italy's banks may be forced to seek capital from government

Reuters reports that Italy's banks may be forced to seek capital from the government if they recognize some (all?) of the losses currently hiding on and off their balance sheets.

Italy is following the same failed strategy as Ireland, Portugal, Greece, Cyprus and Spain.

Step 1:  Have the banks announce modest losses
Step 2:  Hope market participants will be dumb enough to belief the banks when they claim to have cleaned up their balance sheets.
Step 3:  Failing to find enough dumb investors, the government will stand ready to buy any equity that market participants don't want.

There is no reason for investors to buy equity in any Italian bank in the absence of transparency that discloses that bank's current global asset, liability and off-balance sheet exposure details.  It is only with this information that the investor can confirm that all losses have been realized and an assessment of the remaining risk made.

Under pressure from the Bank of Italy, banks are cleaning up their balance sheets before a health check-up on asset quality by the European Central Bank (ECB) expected in early 2014, before it takes over supervision of euro zone lenders mid-year. 

That may force them to turn to the market or the state for cash. 

"If done properly, the asset quality review should result in loan losses spiking in the second half, dividend cuts and potential capital increases," analysts at Berenberg said in a note to clients. 

Monte dei Paschi, the country's scandal-hit No. 3 lender, and a string of mid-sized banks look particularly vulnerable. 

"Italian mid-tier lenders are among the weakest in Europe," Royal Bank of Scotland chief credit strategist Alberto Gallo said. 

He estimates that Monte dei Paschi, which posted its fifth straight quarterly loss on Wednesday, may need up to 5 billion euros over the next three years, on top of a 4.1-billion-euro state bailout it received in February. 

The bank will find it difficult to lure private investors for such a sizeable amount - more than twice its market capitalisation, potentially requiring more support from Italy's cash-strapped government, Gallo said.