First half year 2017: appraisal and forecast for the NPL market

20 July 2017

The high density of non-performing loans now affecting the entire Italian banking system continues to be a serious problem we can’t avoid reckoning with, despite the fact that the first months of the year saw a reduction of net non-performing loans, as confirmed by Banca D’Italia, not detected since May 2014, with a stock of 77.23 billion euros compared with 85 billion euros at the end of 2016.

The figures are growing more alarming in relation to the gross open market value: 324 billion euros of non-performing loans at the end of 2016, of which 117 billion euros classified as probable defaults, with a slight decrease in terms of percentage terms as compared to 2015.

Although these data are not comforting, they are evidence for a trend reversal, which we have not seen for years. It is enough to consider that from 2010 to 2016, the non-performing loans’ gross book value not only has continued to rise but really has doubled (+109%), increasing the overall weight on the banks’ balance sheets from 54% to 75% over six years.

On the one hand, it is one of the fundamental demands to quantify the distribution of the phenomenon between the banks, splitting them between those having solid capital and healthy profitability, allowing them to address the question leveraging their own strengths, and those who need help from “above.” On the other hand, in order to tackle the problem seriously it is necessary to strengthen the banking system from within, engaging into a proactive management of non-performing loans. This management can in fact constitute a crucial point for the banks to focus their attention for a recovery of value.

One of the key elements for the correct classification of the phenomenon lies in the analysis of the impact of guarantees: the majority of net non-performing loans is secured at over three-quarters by collateralized guarantees, mostly by first-class securities. Of these three quarters, 43% are secured by residential real estate and 10% by industrial real estate assets. The strategic credit collection activity on real estate assets should thus include support of the banks by experienced intermediaries, whose special competences include a variety of areas: from legal over financial, information technology, process management, and commercial expertise. For all of them, a competence in real estate is essential, in particular for a correct identification of the real estate’s market value during assessment stage and repositioning on the market, analyzing all possible exit strategies. Nowadays, the real estate market is even more complex and competitive, so this analytical capacity is a necessary condition for obtaining the highest selling price.

A more intense regular monitoring activity should be carried out by the banks on their positions: this in order to establish a virtuous circle, with an awareness of early warnings at the first signals of anomaly, facilitating a regular dialogue with the debtor to improve the chances of a return to a positive balance.

The timely management of unlikely to pay loans remains without doubt one of the most fundamental instruments that banks should make more efficient, especially because of the enormous advantage offered by recovery during the performing phase, compared to the burden connected to depreciation of the asset’s value in the legal field, the legal expenses, the slowness of legal procedures with respect to assets subject to legal proceedings, and the procedural costs.

Precisely these limitations of the technical capacity for dismantling procedures by the courts emerged from a study carried out by the T.S.E.I Association (Tavolo di Studio sulle Esecuzioni Italiane), of which YARD Credit & Asset Management is one of the co-founding partners. It highlights new important data about the average duration of procedures closed with adjudication from 2010 to date, showing a significant increase from 3,2 years in 2010 to 4,9 years in 2016. The consequence of these delays shows in the strong increase of non-performing loans in the last years, which strongly affects the increase of arrears. Despite the legislative changes approved in the last two years to speed up the time of credit recovery, such as the establishment of the public auctions portal as well as the reform of the Patto Marciano, problems frequently encountered are clearly linked to the single courts, where times between the more and less efficient ones often differ significantly. Numerous measures would be necessary to homogenize and reduce the management of the procedures, streamlining the complexities currently present at varying stages of the iter. But these measures would not be sufficient by themselves.

When we have such high volumes as at the current stage, one of the most effective de-risking strategies is that of the en block disposal portfolio sales. Many of them are planned during this year given that the banking system seeks to achieve a one-third reduction of losses by the end of 2017. Also, in this case the presence of an expert servicer together with transparent data allow to guarantee a higher pricing compared to the quality of the assets, having all the information necessary to properly assess the credit value.

The recent introduction of harmonized guidelines by the European Central Bank will most likely bring about a revolution in terms of attention given by the banks to non-performing loans, with a complete modification of what was until now seen as a subsidiary market: thanks to the introduction of new supervisory measures that improve the processes of the management of non-performing loans (from governance to the adoption of actions addressed to data systematization and computerization to the creation of internal resources, charged with the monitoring of positions), the foundations for building a constant control on the levels of non-performing loans held by every single bank will be laid.

The efficiency of the measures already introduced together with other potentially useful ones, however, requires a pro-active role of all the relevant NPL market players: it is important to apply unified and systematic methods and to continue on the path of reforms. All of this needs to happen with the awareness that the knot of the non-performing loans does not just entail rethinking the business model traditionally used by the banks. It requires not only collective interventions, but also the support of targeted actions, and of competent service enterprises, which, depending on the nature of the problem, put into play their capacities of planning the most appropriate and useful strategies for recovery.

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