Nationalized German lender Hypo Real Estate is expected to fail a pan-European stress test, making it the first known failure among 91 European banks being tested for their financial health.
A source familiar with the matter said on Monday that Hypo Real Estate will likely fail a stress test on its capital under a scenario that combines an economic slowdown with sovereign-debt losses.
Bloomberg had earlier reported Hypo Real Estate had failed the stress test, citing two people familiar with the results.
Allowing HRE, which was propped up with more than 100 billion euros ($130 billion) in state aid, to fail would bolster the credibility of a stress test considered by some in the market to be too lenient.
The failure will have a limited impact on the German banking system given that a recapitalization and restructuring of the nationalized lender is already underway, said an investment banker who deals with financial institutions in Germany.
"It was well known on the market that Hypo Real Estate needed extra capital, so failing the stress test wouldn't make any waves," an investment banker told Reuters.
Bankers and officials in Greece, Spain and Belgium have joined a chorus of countries expecting their banks to pass European stress tests, but doubts linger over whether the health checks are tough or transparent enough.
Stress test results will be published Friday.
HRE said in November mounting losses on real estate loans would further erode its capital base, which would likely require further capital injections to repair its balance sheet.
The lender plans to shift about 210 billion euros in assets into what would become Germany's biggest "bad bank," a construct that lets banks transfer problem assets off their own balance sheets, as part of a broader restructuring.
HRE holds 39.2 billion euros in sovereign bonds from Portugal, Italy, Ireland, Greece and Spain — the so-called PIIGS states — and has loaned another 40 billion to local authorities, financial institutions and government-regulated companies in these countries.
Hypo Real Estate, German bank bailout fund Soffin and financial watchdog BaFin declined to comment.
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