EU bank bailout roulette awaits Monte dei Paschi investors

Reuters

* Investor treatment in bank bailouts varies across Europe

* EU bail-in framework does not take effect until 2018

* Countries will still have large degree of discretion

* Monte dei Paschi investors wait to see how they will fare

By Laura Noonan

LONDON, Sept 29 (Reuters) - Investors awaiting the finerpoints of Monte dei Paschi's restructuring plan couldsoon find themselves wishing their bank had run aground atanother time and place in the eurozone financial crisis.

After approving more than 5 trillion euros of state aid toits financial system over the past five years, the EuropeanUnion has switched the burden of bank bailouts away fromtaxpayers and onto shareholders, bondholders and big depositors.

But a consistent approach and certainty over who pays when abank gets into trouble is still lacking, deterring much-neededinvestment into the region and its lenders and ensuring a steadystream of lawsuits when losses are imposed.

"We are trending in the direction of a proper priority ofclaim, a proper following of the hierarchy of the capitalstructure," said Aaron Elliott, a London-based credit analyst atCiti. "But we are certainly not there yet."

"It's very difficult for investors to get involved," headded, pointing to a reluctance to buy bank debt in somecountries.

European rules designed to ensure a harmonised approach tobank bail-ins, forged over the summer, do not take effect until2018, leaving bank investors in heavily indebted countries inlimbo and weighing on those states' own cost of borrowing.

"The reality is, these individual countries can't wait for2018 to bail in bondholders, they just can't afford to do that,"said Elliott.

In response to public outrage over taxpayer-funded bailoutsand to reassure small depositors their funds were safe, theEuropean Commission, which sets conditions banks must fulfil toqualify for state aid, in July updated its framework for bankbailouts for the seventh time in the crisis.

But the EU Competition Authority's powers as defactoguardian of bailout consistency are limited - the framework laysout broad guidelines for imposing losses on shareholders,bondholders and large depositors, but exceptions can be made ifthe measures would do more harm than good.

"State aid control does not enable the Commission to'harmonise' measures that member states intend to implement, butmerely to set minimum standards for them to be compatible withthe internal market," the spokesman for the EC's competitiondivision said. "Inconsistencies ... are thus due to the choicesof member states."

Investors in Monte dei Paschi are still waiting to see howthey will be affected by a new restructuring plan to avertnationalisation. Italy's third-largest lender has delayedapproval of the plan because it is hoping the EC will give itmore time to raise 2.5 billion euros, sources have told Reuters.

NO CONSISTENCY

As the crisis has evolved in Europe so also have thebailouts. At the beginning, taxpayers were the first to be hitto protect junior bondholders, senior bondholders and mostsacrosanct of all; depositors.

Ireland nearly went bankrupt in 2010 trying to save itsbanks and protect senior bondholders and depositors from losses.

Three years later, an even bigger hallmark of the financialsector was almost shattered when Cyprus made a botched bid toburden small depositors. In March, it became the first eurozonecountry to impose losses on large depositors, following a pathbeaten far more quietly by Lithuania a month earlier, whenlosses were imposed on large depositors of failed Ukio Bankas.

"There has been no consistency," said Duncan Martin, partnerat the Boston Consulting Group (BCG), whose firm has worked onthe Irish bank stress tests and Portugal's bank restructuringprogramme. "There has been a gradual harshening of treatment."

The EC's competition spokesman said Brussels had followedthe same principles in its assessment of state aid throughoutthe crisis but as situations changed so too did the rules.

"These changes are however not the result of an inconsistentassessment but of the Commission's attempt to reflect in itsassessment and rules the changing circumstances in the marketsin which banks operate," he said.

An official involved in designing bank bailouts in countrieswith EU/IMF programmes said consistency improved over time butwas hard fought. "In an ideal world we should have had a systemwith much more consistency," he said. "Sometimes we had to comeup with solutions very fast  (and) there were differentliability structures and different assets."

As the number of programmes swelled, harmonising approachesbecame more challenging. "It would have meant all threeinstitutions going back to consult with their respective teams,"he said. "In practice it was extremely difficult."

BARE CUPBOARDS

Differences in bailouts depend on place as well as timing.

Ireland was able to create a bad bank, Nama, to absorb morethan 70 billion euros of bad loans because when Nama was createdin late 2009 Ireland still had a high enough credit rating toenable the financing of the bad bank to work.

Spain was in a similar situation when it created bad bankSareb while both countries also had a portfolio of souredcommercial real estate loans that suited being managed through anew agency.

"You need that set of features to make an asset managementcompany work," said Ajay Rawal, managing director of consultingfirm Alvarez & Marsal.

Many EU countries supported their banks with system-wideguarantee schemes and guarantees were also extended to somebanks to improve their capital positions without pre-paidbailouts, like the 10 billion euros "risk shield" given toHamburg and Kiel-based shipping lender HSH Nordbank.

In Italy, the government chose to support ailing banks bybuying newly-issued bonds, known as Tremonti bonds.

"It (the type of solution) obviously depends on how solventthe country is," said Martin. "If Germany wants to recap(recapitalise) they recap; if they want to guarantee, theyguarantee. There's no issue of the sovereign rating beingdowngraded and so on."

"In Cyprus the cupboard was bare. They could not have bailedout the banks even if they wanted to."

Rawal, whose firm advised the Central Bank of Cyprus on itsbanking sector's 2013 restructuring, said the health of the restof the banking sector also factors in the structures used tosolve problems, pointing to Spain's ability to get healthy bankslike Santander to invest in Sareb.

In the Netherlands, when the taxpayer had to give close to10 billion euros of fresh support to complete SNS's Februaryrescue, the government vowed to reclaim 1 billion euros of itwith a one-off bank tax in 2014. That makes less sense if mostof the sector is bailed out, as in Ireland, Greece and Cyprus.

Despite the many variations of bank rescues, the situationcould have been worse. "For all the inconsistencies that you hadin terms of how banks are bailed out, something that did bringsome coherence to the whole process was the intervention of theEuropean Commission," said Roberto Henriques, a credit analystat JP Morgan.

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