By Gareth Gore

LONDON, Feb 26 (IFR) – Bondholders who lost everything when Banco Popular was forced into resolution four years ago are hopeful that a recent ruling in an unrelated case in the Netherlands could open the door to more than €2bn in compensation from the European Union.

A group of funds including Algebris, Anchorage Capital, Cairn Capital and Pimco have since been locked in a battle to recoup some of the money they lost when bonds they owned were bailed in and then wiped out following a run on the Spanish bank in 2017.

Attempts to claim compensation through the official “no creditor worse off” process – a safety valve built into the EU’s resolution regime – have so far come to nothing, with the Single Resolution Board that oversees the process throwing out the group’s request last March.

Since then, the group has lodged a case at the European Court of Justice effectively appealing that decision and asking for the assumptions underlying the Popular resolution to be thrown out. Victory could lead to substantial compensation.

Although a decision from the ECJ isn’t expected until next year, the funds have taken heart from an unrelated case in the Netherlands where bondholders who were wiped out when the government took over SNS Reaal and SNS Bank were recently awarded more than €800m in compensation.

The Dutch government – like the SRB in the Popular case – had previously rejected calls for a review of valuation assumptions it used at the time of the nationalisation. Bondholders convinced a judge to order a new assessment, which found that they were short-changed.

“The award of compensation for losses imposed on subordinated bondholders of SNS Reaal and SNS Bank when the entities were nationalised in 2013 highlights the difficulties for EU authorities carrying out speedy valuations of banking groups in a resolution,” said Monsur Hussain, an analyst at Fitch.

“We believe the approach taken for SNS Reaal and SNS Bank will act as a reference for authorities and creditors when determining asset valuations in future resolutions.”

Rushed valuations

At the centre of the Popular case are two reports prepared by Deloitte for the SRB in the fortnight before the Spanish bank was put into resolution, which sought to value its assets and informed the decision to bail in and writedown holders of Additional Tier 1 and Tier 2 bonds.

The two valuation reports, which were put together quickly as the situation at Popular was rapidly deteriorating, have been criticised for being rushed and using incomplete data. Deloitte complained that it only had 12 days to complete a process that would normally take six weeks.

Bondholders claim Deloitte used unreasonable assumptions. They say it understated future income from the bank’s performing loan book, unrealistically projected that clients would pay off loans early en masse, and wrongly assumed that there would need to be a firesale of assets.

The treatment of Popular’s performing mortgage portfolio, which accounted for almost a third of the Spanish bank’s €60bn loan book, is a major area of contention. And it is there where bondholders see parallels with the SNS case, where revisions to mortgage assumptions were the biggest factor.

“One of the things we say Deloitte and the SRB have got badly wrong is in relation to mortgage portfolios, which is precisely one of the key assets scrutinised in the Dutch judgment on SNS Reaal,” said Nicola Chesaites, a partner at Quinn Emanuel, which is representing the disgruntled bondholders.

“One of the things we’re asking the court to do is rule that the assumptions the SRB made regarding Banco Popular’s mortgage portfolio are plainly wrong. And now, thanks to the SNS Reaal case, we have a court in Europe that has done just that. We are saying to the General Court that it must do the same.”

Flawed process

Under the no creditor worse off process, the SRB is legally required to perform an independent valuation of assets after the resolution to determine whether any creditors would have seen better recoveries under a normal insolvency process – and to determine whether compensation might be due.

The SRB commissioned Deloitte to do that third valuation. Bondholders say the decision was flawed because the accountancy firm was not an independent party, having done the previous two valuations. Deloitte found no big issues with its pre-resolution valuations.

According to the firm, recoveries even in the best-case scenario under a seven-year insolvency period would have resulted in a €23.4bn shortfall. Under resolution, €9.4bn of equity was written down to zero, and €2bn of AT1 and Tier 2 bonds bailed in and then written to zero.

“The Dutch court ordered its own expert to look again at the erroneous insolvency analysis – also carried out by Deloitte – and has found that actually substantial recoveries are due,” said Chesaites. “We are saying: the General Court should roll up its sleeves and properly review what has been done here; it can’t simply rely on the Deloitte report.”

Bondholders point to recoveries at other collapsed banks, such as Lehman Brothers. Creditors to its European arm have been fully repaid and also received an extra 40% due to a surplus in recoveries. However, creditors to the parent company in the US have received less than half their money back.

According to Fitch analyst Hussain, the “no creditor worse off” process is by its very nature subjective, with valuations based on often incomplete data needing to be made quickly. Assumptions about what a normal insolvency process would entail are also open to interpretation.

“NCWO is, by design, a relatively weak creditor protection,” he said. “It requires authorities to base their calculations on a counterfactual ‘normal insolvency’ approach, which entails a relatively rapid fire-sale, and correspondingly large losses being imposed on creditors.”

“A fire-sale scenario can result in much higher losses than under a longer-term run-off strategy that would typically apply in a liquidation. Consequently, creditors may be dissatisfied with the results of a fire-sale valuation if they lead to losses being imposed in a bank resolution.”

(Reporting by Gareth Gore)

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