Opening address by the Vice-Governor, Elisa Ferreira, in Restructuring, Liquidation and Insolvency Conference: "Sale of Non-Performing Loan Portfolios, Impact on the Economy"
Opening address 
1. I am delighted to take part in this Restructuring, Liquidation and Insolvency Conference on the sale of non-performing assets, particularly non-performing loans (NPLs).
I will go over a few topics that characterise the current debate on NPL reduction, starting with some historical background, then addressing the latest developments in Portugal and some of the challenges we now face.
I would like to start by recalling that the response of international (mostly European) authorities to the 2007-08 crisis evolved over time, as different types of risk materialised.
The difficulties experienced from 2007 onwards led to numerous public sector interventions in the banking system across several EU Member States, using public funds (the so-called bail-outs) to contain the too-big-to-fail risk, inter alia, and safeguard financial stability.
Moral hazard, implications for taxpayers and the associated bank-sovereign doom loop shaped the discussion on how to tackle the crisis and design the ensuing response.
In 2008 the European Commission started work on the development of a dedicated regulatory framework governing State aid to financial institutions.
This framework was successively revised in a series of Communications, which became more restrictive over time, imposing increasingly stringent requirements through the strengthening of private sector loss-absorbing capacity, on the basis of taxpayers’ protection.
At European Union (EU) level, this regulatory process culminated in the adoption of the Bank Recovery and Resolution Directive (BRRD)2, in which there was a decisive shift from bail-out to bail-in.
2. Non-performing assets took on particular importance in a number of economies during the crisis and the subsequent adjustment period. More recently, they also come to light in the discussions on risk reduction in the banking sector needed to deepen the Economic and Monetary Union.
It is worth recalling that the factors behind the systemic increase in non-performing assets in a number of European countries were different, took place at distinct points in time and were set against changing regulatory environments.
In some cases, associated with the sudden burst of real estate bubbles (that materialised at the beginning of the financial crisis), solutions were devised in a more favourable regulatory environment.
In turn, in other jurisdictions NPLs stemmed from the deepening and gradual spread of the crisis/crises, whose effects filtered out across time and geographies, while the regulatory framework tightened further to mitigate the aforementioned factors, most notably, the bank-sovereign nexus.
Taking into account the State aid rules (from 2013) and the BRRD (from 2015), massive disposals of nearly all NPLs by most credit institutions off their balance sheets became much more difficult compared with solutions like NAMA in Ireland and SAREB in Spain, which were set up early on in the crisis.
As recently clarified by the European Commission in its Blueprint on national asset management companies, the State’s involvement in bad-bank-type solutions in situations other than resolution/liquidation, requires, inter alia:
- observance of State aid rules, including the provision by credit institutions of a restructuring plan while ensuring adequate burden sharing, and
- that the State support be limited, and must not be used “to offset losses that the institution has incurred or is likely to incur in the near future”, preceded by a stress test and/or an asset quality review.3
Against this background, the potential for massive disposals of non-performing assets to a bad bank must take into account the following closely linked restrictions:
- the EU regulatory framework, as I have just mentioned,
- the impact on banks’ own funds, and
- the impact on public accounts.
It is therefore important to assess whether their benefits outweigh the risks to fiscal consolidation and financial stability stemming from the banking system’s fulfilment of the aforementioned requirements.
In the absence of a solution allowing for a marked reduction in NPLs with no trade-offs leading to financial instability, credit institutions must seek and implement the measures most suited to each scenario.
For instance, in the case of credits to firms that show evidence of being solvent, it may be more appropriate to opt for approaches involving corporate restructuring, on the basis of measures such as debt-to-equity swaps, capital increases, etc.
The sale of NPL portfolios may, however, be preferable in cases where specialised investors can act differently from banks.
However, the sellability of NPL portfolios depends on both their proper valuation and the bid-ask spread.
Overall, credit institutions, also under pressure from supervisory authorities, have increased their NPL impairment coverage ratio. This has had a very positive impact in increasing liquidity in the NPL secondary market.
Nevertheless, it should be noted that the bid-ask spread is typically high in the case of NPLs, mainly for three reasons:
- high return expectations by buyers,
- recovery time of collateral through judicial action, which is typically longer in countries with historically slower judicial systems, and
- information asymmetry, given that the buyer is less informed about the borrowers and therefore makes a more conservative assessment of their recoverability.
As a result, measures enhancing the efficiency and effectiveness of the legal, judicial and fiscal framework are particularly important.
In view of the discussions in this conference, it is worth mentioning a number of initiatives under the “Plan to tackle non-performing loans in Europe”, adopted in July 2017 by the EU Economic and Financial Affairs Council (ECOFIN), which seek precisely to increase liquidity in secondary markets for NPLs.4
Although some of these initiatives need to be further examined in order to ascertain their true impact, the most relevant for today’s discussion are:
- the proposal for a Directive from the European Commission,5 currently being negotiated by the European Parliament and the Council, which has two main goals:
a. to encourage the development of secondary markets for NPLs, by making it easier for credit purchasers and credit servicers to access loans granted by credit institutions, and
b. to enhance the efficiency of out-of-court procedures for recovery of collateral.
The European Commission proposes to introduce harmonised rules and standards for credit purchasers and credit servicers, as well as swifter mechanisms for the recovery of collateral through extrajudicial enforcement procedures;
- EBA Guidelines on disclosure of non-performing and forborne exposures.6 The aim of the Guidelines is to foster transparency, providing meaningful information to market participants and to address any potential asymmetries of information;
- the set of templates published by the EBA for credit institutions to organise and supply the information on NPLs to potential investors.7 The aim of the templates is to provide a common data set for the screening, financial due diligence and valuation during NPL transactions; and
- the setup of NPL transaction platforms to stimulate the development of the secondary market. To this end, the European Commission has recently published a Staff Working Document detailing the key practical aspects to put this type of initiative into practice.8
3. Let’s now focus on the Portuguese case.
As a result of a much more demanding regulatory and supervisory framework, in recent years the national banking sector has carried out a significant adjustment and consolidation process, which improved solvency, reduced non-performing assets, particularly NPLs, and increased operational efficiency, with visible effects on its profitability.
Particularly demanding supervisory and evaluation initiatives have also been carried out in order to strengthen the control and internal governance mechanisms, and to stabilise and improve the quality of several institutions’ management teams.
This process, together with the country’s fiscal consolidation path and the recovery of economic activity, has contributed to the improvement of international investors’ perception of the Portuguese sovereign and banking sector, which has been reflected in a reduction in risk premia and rating upgrades.
Specifically in relation to NPLs, since 2016 significant progress has been made both to reduce stock and increase these assets’ coverage by impairments:
- Since the record high observed in June 2016, the NPL ratio has decreased from 17.9% to 11.3% in September 2018 (-6.6 percentage points), reflecting a EUR 19.2 billion reduction, or a 38% decline in the NPL stock, which at that date was EUR 50.4 billion;
- This reduction, which has been progressive, was driven by a significant reduction in NPLs from non-financial corporations of almost EUR 13 billion;
- The change in the total NPL stock was mainly due to write-offs and, secondly, to similar degree, to NPL sales and (net) cures, the importance of which has been increasing;
- In September 2018, the NPL impairment coverage ratio was 53.2%, 10 percentage points higher than in June 2016 and at levels comparable to those observed at EU level.9
The public information available from some of the main institutions suggests the continuation of a downward trend in the NPL stock.
These developments reflect the adoption of a strategy to reduce non-performing assets based on three interdependent and complementary pillars:10
- revision of the legal, judicial and fiscal framework;
- microprudential supervisory action; and
- active management of NPL portfolios by institutions.
This strategy was developed taking into account the heterogeneity that characterises the NPL stock of Portuguese banks – most of which are associated with companies of different size, activity sector, and economic and financial viability.
Important considerations in this regard include:
- the creation by a set of banks of a coordination platform named Plataforma de Negociação Integrada de Créditos Bancários (PNCB), which, while not involving a transfer of assets off banks’ balance sheets, aims at increasing the effectiveness and speed of the restructuring processes of companies that are exposed to at least two of those banks; and
- the legislative changes of the programme ‘Capitalizar’, as key enablers of the NPL secondary market conditions in Portugal.
The strengthening of solvency of the main Portuguese banks, the improvement in economic activity and price behaviour in the real estate market have also been paving the way for a reduction in non-performing assets.
4. Despite the significant progress being made (avoiding State intervention/direct aid), the NPL level of Portuguese institutions remains considerable and has compared unfavourably with their European peers.
Thus, it is necessary for credit institutions to continue to reduce their non-performing assets in line with the plans submitted to the supervisory authorities.
It is also crucial that they strengthen their capacity in order to accommodate a possible tightening of supervisory and prudential requirements, given the continuous focus of the relevant stakeholders (such as the EBA, the European Commission and the Single Supervisory Mechanism) on the issue of non-performing assets.
This purpose is even more relevant if we take into account that, given the slowdown in the economy coupled with the positive relationship between the business cycle and the reduction in the flow of impairments, progress achieved on the NPL balance may change the trend.
It is therefore necessary to reconcile the objectives of the different stakeholders with a view to safeguarding financial stability, maintaining the downward trend in the NPL stock, and ensuring that the destruction of inherent value is justifiable in order to mitigate the impact on the economy.
As a conclusion, I would point out that the reduction of non-performing assets will naturally generate greater confidence in the strength of the balance sheets, the profitability, and the sustainability of credit institutions, contributing to an improvement in their market valuation.
In this sense, I hope that today’s conference will make a valuable contribution to fleshing out the shared vision needed to address the challenges and opportunities we face.
Directive 2014/59/EU of the European Parliament and of the Council of 15 May 2014 establishing a framework for the recovery and resolution of credit institutions and investment firms and amending Council Directive 82/891/EEC, and Directives 2001/24/EC, 2002/47/EC, 2004/25/EC, 2005/56/EC, 2007/36/EC, 2011/35/EU, 2012/30/EU and 2013/36/EU, and Regulations (EU) No 1093/2010 and (EU) No 648/2012, of the European Parliament and of the Council Text with EEA relevance, OJ L 173, 12.6.2014, p. 190–348.
Commission Staff Working Document “AMC Blueprint” accompanying the document Communication from the Commission to the European Parliament, the European Council, the Council and the European Central Bank - Second Progress Report on the Reduction of Non-Performing Loans in Europe, available at: https://eur-lex.europa.eu/legal-content/EN/TXT/HTML/?uri=CELEX:52018SC0072.
 Proposal for a DIRECTIVE OF THE EUROPEAN PARLIAMENT AND OF THE COUNCIL on credit servicers, credit purchasers and the recovery of collateral, COM/2018/0135 final - 2018/063 (COD), available at: https://eur-lex.europa.eu/legal-content/PT/TXT/HTML/?uri=CELEX:52018PC0135.
 EBA Guidelines on disclosure of non-performing and forborne exposures, available at: https://eba.europa.eu/-/eba-publishes-final-guidelines-on-disclosure-of-non-performing-and-forborne-exposures.
 EBA standardised NPL data templates, available at: https://eba.europa.eu/-/eba-revises-standardised-npl-data-templates.
 Commission Staff Working Document “European Platforms for Non-Performing Loans” accompanying the document Communication from the Commission to the European Parliament, the European Council, the Council and the European Central Bank – Third Progress Report on the reduction of non-performing loans and further risk reduction in the Banking Union, available at: https://eur-lex.europa.eu/legal-content/EN/TXT/HTML/?uri=CELEX:52018SC0472.
 Portuguese Banking System: latest developments, Banco de Portugal, 3rd quarter 2018, available at: https://www.bportugal.pt/sites/default/files/anexos/pdf-boletim/overviewportuguesebankingsystem_2018q3_en.pdf.
 “Strategy to address the stock of non-performing loans (NPLs)”, Financial Stability Report, December 2017 available at: https://www.bportugal.pt/sites/default/files/anexos/pdf-boletim/ref_12_2017_en_0.pdf.