The Bank of Portugal requires banks to create additional reserves to alleviate the real estate crisis.

Portuguese banks will be forced to create additional capital reserves equal to 4% of their residential real estate-backed private client portfolios to protect themselves against a possible jump in house prices. The measure will affect dividends.

According to a new measure announced by the Portuguese Bank, Portugal's largest banks will be required to create additional capital reserves to protect themselves against a possible rise in house prices. It involves the creation of an additional capital reserve representing 4% of the portfolio of private loans secured on residential real estate, bringing to about 400 million euros the deferral by banks affected by the measure. This comes at a time when banks are making record profits thanks to rising interest rates and have the ability to make new reserves.

A number of countries in Europe are experiencing a free fall in housing market prices. Banks should create such reserves as early as October 1 next year, subject to review by the banking regulator at least once every two years. The macroprudential recommendation does not affect everyone.

Portuguese banks BCP, BPI, Santander Totta and Novobanco will have to comply with the new rule

because they use their own risk parameters to calculate regulatory capital for credit risk (the so-called internal rating agreement), unlike Caixa, a state-owned bank, which is not subject to the measure. Another bank that has come under special scrutiny is Bankinter. The Portuguese bank is awaiting the Spanish bank's decision on the reciprocity recommendation they have made to the Spanish regulator to introduce the measure for the bank's Portuguese unit.

The new measure will be reflected in the dividend. The measure was adopted after notifying the European Central Bank, which did not object to the proposal, and after consultation with the National Council of Financial Supervisors, the European Systemic Risk Committee and the European Commission, the Bank of Portugal said. The banks were also consulted in advance and, according to ECO, were not entirely satisfied with the measure.

The need to set aside more money to make these additional provisions will affect the dividends they plan to pay next year.

"It is very important that the banking sector plans its buffers, makes the necessary reserves, because the cycle can change, will change, we don't know when it will happen. But we have to be prepared," said Mario Centeno at a meeting organized Thursday by the American Club of Lisbon.

Although the real estate market in Portugal continues to show signs of resilience, the Bank of Portugal is worried about strengthening banks' safety cushions in case of a possible deterioration in economic conditions or an unexpected significant adjustment in residential property prices in the future. Thus, additional reserves will be used to cover possible losses.

"The application of this instrument is preventive in nature and aims to increase the institutions' resilience to possible future systemic risk in the residential real estate market in Portugal," the regulator said in a statement. "If the risk is realized, this reserve can be released to support lending to the economy. In this sense, the Bank of Portugal will announce a period during which this reserve is not expected to increase," the statement added.

The measure will not cause difficulties for lending, the Bank of Portugal said. In Portugal, loans to families secured by real estate account for 26% of banks' assets, with home loans dominated by variable rates - around 90% of contracts are linked to variable rates. This additional capital provision is in addition to the macroprudential guidance on mortgage credit announced in 2018, which sets rules on the length of loan contracts (capped at up to 40 years), on the level of financial stress (which has just been revised) and on borrowing costs.

The Portuguese regulator believes that this new measure will not affect banks' ability to comply with other requirements and guidelines, nor will it make it more difficult to extend credit. Other European countries, including Germany, Belgium, Slovenia, Lithuania and Malta, have also already required their banks to create such additional capital reserves depending on their exposure to the real estate market. As an illustration of this, Germany's financial regulator - BaFin warned of the possibility of additional losses that banks could incur due to pressure on real estate prices.