Old Mutual’s Christine Johnson says in the end Spanish bondholders will be hit

The true extent of bad loans in Spain is only starting to emerge. It is unlikely bondholders will be spared the pain.

It increasingly appears that Spain has a similar, if not a worse, problem than the US had in 2008 – a severe overhang of unsold homes, rising unemployment, rising mortgage delinquencies and a banking system in need of capital.

Spanish banks – one of the weakest links in the eurozone – have received €316bn from the European Central Bank over the past six months.

This might support their liquidity position, but the problem of solvency remains. The sums still to come will be very substantial and it seems that bondholders will be drawn into a large-scale ‘bail-in’.

According to the Spanish authorities, the country’s banks need to make provisions against an additional €84bn in likely defaults in the real estate sector alone, which includes loans to developers and against land. This is already a big number, equivalent to 7.8% of Spain’s 2011 GDP and close to its public deficit of 8.4% of GDP.

Were that the full extent of the problem it would be difficult enough but it does not take account of the non-performing loans in the corporate sector or, still more critical, residential mortgages.

Spanish mortgage losses have defied gravity due to unemployment benefits being especially generous for the first two years. As these benefits are withdrawn, there is likely to be a significant quickening in the pace at which defaults are rising.

The Institute of International Finance, which represents private sector bondholders, estimates that total loan losses in Spain may amount to €260bn – equivalent to nearly 25% of GDP or a third of the current national debt. Such a sum would require the banks to find around €60bn in new capital, equivalent to 5.6% of Spain’s 2011 GDP.

The banks themselves are not all of a piece.

BBVA and Santander have significant overseas operations and derive a large proportion of their earnings outside Spain, giving them a greater and more dependable profit stream against which to offset losses on their domestic loan books.



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