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Litigation Tail Risk for Spanish Banks: IRPH

Litigation Tail Risk for Spanish Banks: IRPH

  • Spanish banks face a material tail risk related to IRPH mortgages

lunes 09 de septiembre de 2019, 14:15h
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ECJ ruling on IRPH could be material, the European Court of Justice (ECJ) is going to rule on the sale of Spanish mortgages linked to the IRPH index at the end of 2019 but beforehand, on the 10th September 2019, the EU Advocate General is expected to release its opinion on the matter. DBRS expects the ECJ to declare the sale of those mortgages as transparent, confirming the Spanish Supreme Court ruling in 2017. However, an adverse ruling for banks could leave the door open for additional costs for the banks. If this is the case, the final outcome and impact on banks is challenging to estimate since it depends on multiple variables, but it could be material.

The legal issue under debate: transparency on the sale of mortgages

The legal issue under debate is the transparency of the sale of consumer mortgages linked to the IRPH index (Índice de Referencia de Préstamos Hipotecarios). The IRPH is an official index calculated by the Bank of Spain used in Spain for variable interest rate mortgages as an alternative to Euribor. As IRPH has registered higher rates than Euribor, consumers have claimed that the index was not disclosed in a transparent manner when the mortgage contract was signed. Since 2013 there have been First Instance courts in Spain ruling in favour of clients. These rulings determined that in
order to be transparent, the contract should include a full explanation of the index, comparisons with other indices, historical evolution and forecast of the indices. However, the Spanish Supreme Court established in its ruling of December 2017 that just stating the index was enough to pass the transparency requirement.

Nonetheless, a preliminary ruling was formulated to the ECJ by a First Instance Court on February 2018 to see if the ruling of the Spanish Supreme Court was in accordance with European consumer legislation. On 10th September 2019, the EU Advocate General is expected to release its opinion and the ECJ final ruling is expected by the end of 2019. The final ruling could leave the door open to substantial additional costs for Spanish banks if the ECJ declares that the sale of IRPH mortgages was not transparent. If this is the case, the remediation action could be either to leave the mortgage contract in place but with no requirement to pay interest, or to reference the contract to another index such as Euribor, not only for the rest of the life of the contract but also potentially for past amounts.

IRPH residential mortgage volumes have come down from previous levels

DBRS estimates that Spanish banks have granted around EUR 108 billion of residential mortgages linked to IRPH since 1999 or around 7.6% of the total residential mortgages granted. However, the popularity of this index has declined over time and whereas residential mortgages linked to IRPH represented around 12% of the total originated volumes in 2004, since 2016 these mortgages represented less than 1% of the total contracts signed. This is the result of a change in market practices, as banks have been focusing more on Euribor for variable interest mortgages. In addition, banks have been increasingly offering mortgages with fixed rates since 2011. Notably, there has also been a large difference between regions with Catalonia being by far the region with the most IRPH mortgages loans granted. DBRS calculates that around 36% of the total IRPH residential mortgages granted since 2004 were in Catalonia.

However, the current remaining mortgage exposure of Spanish Banks is not EUR 108 billion, but substantially lower. DBRS estimates that the aggregated exposure of the 12 largest banks in Spain (those supervised by the SSM), amounts to around EUR 20 billion at end-1H19. Extrapolating to the whole system, this would be an amount of circa EUR 23 billion. The difference between the estimated outstanding amount and the total granted amount is due to several factors. One factor is the natural amortisation of the mortgage book, which explains most of this difference. In addition, banks have offered clients the possibility of transferring existing residential mortgages linked to IRPH to other indices or to fixed rates. Indeed, DBRS estimates that for the 12 largest banks in Spain, the aggregate domestic mortgage book at mixed or fixed rates is around 20% of the total domestic
mortgage book, with some banks at 40%. This could also highlight a proactive approach by the banks to switch IRPH loans into fixed rate loans, thus reducing the current exposure of IRPH residential mortgages loans.

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