The positive performance of non-performing loans in Spain over the last year has strengthened the financial position of banks, which, in addition to having a lower-risk loan portfolio, need fewer provisions to cover potential losses. This is a position of strength that increases their level of protection against non-performing loans. According to the latest risk panels from the European Banking Authority (EBA), Spanish financial institutions have increased their non-performing loan coverage ratio over the last year, reaching an average of 45.5% at the end of June, compared to 43.6% a year earlier. This slight increase allowed them to surpass French banks, whose ratio stood at 44.3% after falling slightly during the period.

This metric is calculated by dividing provisions by the volume of non-performing loans and reflects the proportion of non-performing loans that are covered by the provisions that a bank has set aside. The increase in coverage is due in practice to an improvement in credit quality, which also requires lower risk provisions. In other words, provisions (the numerator of the ratio) fall, but to a lesser extent than non-performing loans (the denominator), so that the coverage ratio ends up increasing.

Banks are taking advantage of this tailwind to cover themselves against potential unforeseen events in the future that could cause defaults to rebound. In other words, a higher ratio could serve as a shield to help them weather more difficult times. According to the latest data from the Bank of Spain, delinquency rose slightly in August from the previous month, to 2.93%, breaking with six months of continuous decline. However, the rate remains at its lowest level since 2008, staying below 3%.

Original Story: El Economista| Author: Matteo Allievi
Translation & Edition: Prime Yield