Extraordinary investment opportunity in Italian banks

The investment opportunity of Italian banks has been described as "extraordinary" by the Financial Times, which recently dedicated an inordinate amount of space to this development. The reason behind this attention is not just the opportunity Italian banking presents but also the fact that Europe's banking sector, which includes that of the UK, is ripe for consolidation.

The European Union's banks have to compete with the likes of New York's Citigroup, which employs 300,000 people. This was the bank which Sandy Weill and Frank Zarb built, and EU banking has a long and difficult way to go before it can boast of a bank in the same league.

Mergers and acquisitions (M&A) activity in the EU is only a fraction, and not a very large one, of what it is in the US, so EU bank consolidation, which is able to meet the challenges of economic globalisation, is a matter for the future.

This does not mean, however, that our continent is not moving towards that end. The best hope for its achievement is to make bank shares attractive to investors.

The Financial Times is not speaking about the extraordinary investment opportunity in Italian banking because it holds a brief to the rich of Italy, but because it sees Italian bank consolidation as a prelude to the greater picture of that of the EU.

There is place for small banks in a country's banking picture. The US, although boasting of Citigroup, has thousands of small banks. The same may be said about Europe. Italy has 800 small banks, and it is not Europe's most bank-fragmented country.

Germany and Spain are even more fragmented. Germany has a vigorous bank co-operative sector which controls a third of the deposits of the country and which has received the praise of The Economist in its last review of international banking.

Brussels is against co-operative banking. The facts, however, are otherwise. Although perfect competition, that is a large number of buyers and sellers, is as desirable in banking as in other sectors of the economy, there are jobs which only a properly capitalised bank can do.

For banking to be effective it must have certain economies of scale. In Malta we have seen during these last years the highly beneficial impact of HSBC, which has invigorated our banking to the extent that the share price of Bank of Valletta is benefiting from the island's completely changed financial climate.

The rise in a bank's shares causes the shares of a sister bank to rise in sympathy. In banking, as in other aspects of business, we either rise together or fall together. John Maynard Keynes taught Europe long ago that there was no income generation to be had from universal bankruptcy, but only from a stimulation of the public's marginal propensity to consume by autonomous investment multiplied through banking activity.

The Seventies in Malta were lean and hungry because, despite the hundreds of millions of NATO aid in today's money, there was a disruption of the banking system, leading to a massive distrust on the part of the people in the role of the private banker as the leader of the economy.

Malta is today a country with a European level of consumption, at least as regards cars and housing, and it owes this high level to the increasing efficiency of its banking system.

Brussels' stand

Brussels is imbued with Keynesian economics. Former European Commission President Romano Prodi, the economist educated in Milan and the London School of Economics, did not labour in vain. Brussels knows that in a short time the euro will be the world's leading reserve currency.

Everything points in that direction. It would be a preposterous situation if the euro were to further strengthen its world position, and European banking were to remain in its present fragmented state.

So Brussels has launched a charm offensive. It is trying by persuasion to effect the consolidation of the Italian banking sector. The present extraordinary investment opportunity in Italian banking is not the result of a speculative bubble, such as would in the long run harm investors, but it has deep roots in Europe's economic needs, as we will demonstrate.

If one is to make a success of one's investment, one must study carefully the fundamental reasons behind his decision. It is foolhardy to embark on an investment adventure without carefully pondering the quantitative reasons for such a decision.

An investment decision taken solely because of gut feeling provoked by a tabloid investment is a sure recipe for disaster. Brussels is solidly behind the intentions of the Spanish and the Dutch to get into Italian banking.

As usual, our main guide is The Economist, which knows how to crystallise in a single financial ratio a whole economic situation. It stated: "Davide Serra of Morgan Stanley is also positive about the foreign banks' chances.

"Consumers would welcome the arrival of the Dutch and the Spanish. Prices for retail banking services are 20-30% higher in Italy than in the Netherlands or Spain. BBVA and ABN Amro would add and reduce prices in mortgage lending, credit cards and lending to small business."

The Economist is saying politely what every consumer in Italy needs to know; that the structure of Italian banking, like most of European banking, is an unhealthy oligopolistic one with plenty of price collusion, and that a strong burst of mergers and acquisitions would benefit everybody - not least the all-round prospective investors.

Machiavellian Fazio

One reason why the share prices of Italian banks will probably explode is because the Machiavellian Dr Antonio Fazio, Italy's chief central banker, has kept the lid on Italian banking for far too long.

Now the boiling pot is showing a tendency to be able to move its top without any help from the cook. Italy prides itself on being the country of Machiavelli who produced a book during the Renaissance that is studied today at Harvard management courses, unfortunately often much to the detriment of semi-educated students.

The trouble is that Machiavellians often try to be too clever by half. Dr Fazio resisted a big bang in Italian banking six years ago when he prohibited an internal consolidation of Italian banking. Now the lid he kept down is threatening to blow up in his face.

Anybody who resists market forces in banking can only hope to damage his country and himself. In 1999, Dr Fazio thwarted a link-up between San Paolo IMI and Banca di Roma (now Capitalia); he also prevented the merger between UniCredito and Comit.

This was the narrow-minded politics of a banker who could only be labelled provincial when compared to the likes of Weill and Zarb.

Since Brussels began its strong charm offensive on Italian banking a few months ago share prices have risen considerably. The share price of Banca Intesa has risen 30% since October, although it has not been involved like San Paolo IMI in any well publicised M&A activity.

Banca Intesa acquired Fano savings bank during Easter Week, but that is a small matter compared to the internationally publicised financial tussles Italy's third largest bank San Paolo IMI is going through. This last named bank has since last October increased its share price by 38%.

It has recently published excellent results, increasing its dividend by 43%. Its immediate future is by no means clear, but it is far from being an enigma wrapped up in a chimera - to borrow a Churchillian phrase.

It has been downgraded on the publication of its magnificent results by Goldman Sachs, a Wall Street investment firm to "in-line" from "outperform". This is however probably because San Paolo has said that it was not interested in entering a battle to take over either Banca Nazionale del Lavoro or Banca Antonveneta.

This may be a short-term manoeuvre and that is why the investment opportunity in Italian banks is not for widows and orphans but for those enjoying the banking background of an economist.

An investment lesson

The Italian bank investment opportunity is not only a money opportunity for the rich and knowledgeable Maltese, but also for those Maltese with banker credentials, and these include those in the trade union movement, who with proper banking expertise have a potential of controlling up to a third of the bank deposits of this country.

The co-operative bank of Lodi, the so called Banca Popolare di Lodi, has been in the news recently as if it were a Rothschild bank and not just a product of the Italian trade union movement. It is an object lesson of what a co-operative bank can do, even if it does not belong to the capitalist system.

In banking there is room for everybody but unfortunately there is no place for the rascal and the lazy, for they are soon unmasked. Malta is an under-banked country which beckons for more banks.

The Financial Times, which hardly ever mentions the words 'co-operative' bank, faithfully reported the following development on March 24, which is being reproduced to demonstrate that Italian banking consolidation is a matter for the attention of our trade unions:

"Banca Popolare di Lodi also denied reports its board would yesterday discuss a €1.5 billion capital increase to fund a rival bid to ABN Amro's for Antonveneta. The co-operative bank has built a near five per cent stake in Antonveneta.

"ABN has resisted Pop. Lodi's merger suggestions, because the terms offered would leave the Dutch bank as a minority investor. Pop. Lodi shares dipped 1.4 per cent to €8.38".

Maltese investors have learned that investing in bank shares can show them the other side of the coin. They have yet many lessons to learn in moneymaking from the rich Italians of the Po Valley.

If all of Europe is seeking profits in Italian banks, Malta might be interested in joining, not just investing in shares but also in welcoming investments in Maltese banks on the part of the Italian banks.

A Vatican-linked Italian bank would be an excellent strategic partner for a dynamic APS Bank. Let us not forget the Gospel parable of the talents. This is not to neglect the vast underutilised resources of this country, with billions invested abroad.

John Azzopardi Vella is an economist with DBR Investments Ltd, licensed by the MFSA. E-mail: johnazzopardivella@hotmail.com