The European Court of Justice refused to listen.
By Don Quijones, Spain & Mexico, editor at WOLF STREET.
The European Court of Justice just delivered a landmark ruling that could cost Spanish banks – or Spanish taxpayers, in case of another bailout – billions of euros: 40 out of Spain’s 42 banks will have to refund all the money they surreptitiously overcharged borrowers as a result of the so-called “mortgage floor-clauses” that were unleashed across the whole home mortgage sector in 2009.
These floor clauses set a minimum interest rate, typically of between 3% and 4.5%, for variable-rate mortgages, which are a very common mortgage in Spain, even if the Euribor dropped far below that figure. In other words, the mortgages were only really variable in one direction: upwards!
This, in and of itself, was not illegal. The problem is that most banks failed to properly inform their customers that the mortgage contract included such a clause. Those that did, often told their customers that the clause was an extreme precautionary measure and would almost certainly never be activated. After all, they argued, what are the chances of the Euribor ever dropping below 3.5% for any length of time?
At the time (early 2009), Europe’s benchmark rate was hovering around the 5% mark. Within a year it had crashed below 1% and is now languishing below zero. As a result, most Spanish banks were able to enjoy all the benefits of virtually free money while avoiding one of the biggest drawbacks: having to offer customers dirt-cheap interest rates on their variable-rate mortgages.
Following the latest ruling, the banks named in the suit must reimburse clients all the money they’ve surreptitiously overcharged them, and not just from May 2013, when Spain’s Supreme Court ruled that the floor clauses were “abusive” and “non-transparent,” but from 2009, when the banks began introducing the clauses.
In its original ruling from 2013, Spain’s Supreme Court argued against applying the law against floor clauses retroactively to 2009 on the grounds that it would potentially cripple the banks’ finances. The EU’s advocate general, Paolo Mengozzi, echoed that sentiment in July when he proposed putting Spain’s “macroeconomic considerations” (legalese for “what is best for the banks”) before the microeconomic needs of consumers.
But the European Court of Justice refused to listen, instead arguing that if a clause in a contract is declared void, it is so from its origin, with the result that the 40 Spanish banks implicated in the practice could end up owing their mortgage customers as much as €10 billion in refunds, according to the financial consultancy firm Analistas Financieros Internacionales. It could be even more.
The market’s initial response was emphatic, with Spanish banking stocks plunging by as much as 10% before rebounding. Banco Sabadell SA, which has so far refused to reimburse its affected mortgage customers and has allegedly done less than most other banks to provision its exposure, fell as much as 7.5%, while Banco Popular’s penny stock slipped by 10.5%, the largest decliner in Spain’s Ibex 35 benchmark. At the time of writing almost all Spanish bank stocks are down, though not as heavily as before. Banc Sabadell is down 2%, BBVA 1.9% and Popular, by far the most affected, 6.9%.
The timing could not have been worse, with Spanish banks already under concerted pressure from weak demand for credit and low interest rates. To make matters worse, some banks are still making provisions for bad loans, a dirty hangover from the insane exuberance of Spain’s real estate bubble. Which pressures their profits even more. They include Banco Popular, whose shares have crumbled over 70% this year and which urgently needs to dump a large part of its toxic baggage. But as The Wall Street Journal points out, that’s easier said than done:
Its real-estate assets are of such poor quality that it would have to divert revenue toward more provisions to cover loan losses. Alternatively, it could sell some property assets at a loss. Either way, profits would take a big hit.
Popular was already expected to announce total losses of at least €3.7 billion for this year as a result of billions of euros of provisions. And that’s assuming it’s given a green light to spin off €6 billion worth of dodgy assets into a separate investment vehicle, optimistically titled Sunrise, that will be floated on the stock exchange early next year. Now it will have to make even more provisions.
In the meantime, if it – or any other Spanish bank – wants to continue applying floor clauses in the future, it will have to do so in an open and transparent manner, which pretty much defeats the purpose, since if banks were completely up front about the inclusion of floor clauses in their contracts and what that actually means to the mortgage holder, no one in their right mind would accept them.
And that can mean only one thing: even tighter margins on the banks’ books. Clocking in at €521 billion, home loans are one of the largest parts of Spanish bank lending business. For 2016 alone, the disappearance of the floor clause is expected to set the banks back over €2 billion in margins, followed by a further €4 billion between 2017 and 2019. The banks have tried to make up for those losses by ratcheting up customer fees, but that is already beginning to provoke a an angry backlash, with even the government criticizing the banks’ actions.
As long as interest rates in Europe continue to remain artificially low – a phenomenon that is “killing” Europe’s banks, in the words of Francisco González, Executive Chairman of Spain’s number-two bank, BBVA – the balance sheets of Spain’s banks will continue to suffer. No doubt, the Spanish taxpayer will be on hand to fill any holes. By Don Quijones, Raging Bull-Shit.
Part of the huge pile of toxic loans on the books of Italian banks is often the result of corruption, political kickbacks, fraud, and abuse. Read… Italy Banking Crisis is Also a Huge Crime Scene