Rapidly growing banks send trembling through Brazil’s financial system

(Bloomberg) – Brazil’s Central Bank President Gabriel Galipolo cleaned up his schedule on Monday to make room for some emergency meetings. The guest list includes Andre Esteves, chairman of financial giant Banco BTG Pactual SA and Paulo Henrique Costa, head of the smaller, more obscure bank owned by the Brasilian government.

This topic is the third bank that brings all destinies together. Until recently, Banco Master SA has been a Goofy, whose loan portfolio has increased by an average of 86% per year, leased a splash office in Miami and gained rivals. But for such rapid development, the owner relied heavily on the incentives provided by a deposit insurance fund called FGC. A December 2023 rule changed the bank’s future uncertainty and raised concerns among others in the industry that this situation could pose greater risks.

According to people familiar with the matter, Daniel Vorcaro has been trying to sell the lender since the central bank introduced new FGC rules, which undermined its business model of borrowing from mom and pop cars’ savings to buy riskier assets. People say the negotiations obtained by BTG are not successful. But last week the Master announced an agreement to merge with the Brazilian capital’s bank BRB SA.

The deal still requires antitrust approval and signing of the central bank, which has been led by Gary Poirot since January. He was scheduled to meet Vorcaro on Tuesday, which could be a key encounter for the Masters in the future and tested Galipolo’s ability to curb the potential FGC crisis. Master of Criticism – BRB’s protocol critics say this differs from bailouts for a company that is allowed to take too much risk for too long.

Fama Re.Capital Re.Capital Re.Capital, Fabio Alperowitch, said: “The recent Banco Master and its bailout BRB is a public bank related to the federal capital region, blatantly exposes the function of a system that rewards irresponsible behavior and poses risks to the society.”

The deal brings “complementarity of enterprise, solidity, liquidity and capital,” BRB said in a statement. It will be carried out after the restructuring will create a holding company. This independent entity, which will not be part of the transaction, will retain some of the riskier owners, such as their equity stakes in small and medium-sized companies, their bond portfolios (legal claims) related to court payment disputes, and bonds for investment banking, as well as other “non-strategic assets and debts.”

The Central Bank and Gary Poirot declined to comment. BTG and the owner did not respond to news seeking comments.

Banco Master was born in 2017 after Vorcaro and Partners purchased a small bank and changed its name and strategy. Since its inception, the Masters have relied heavily on the interests of using the FGC from individual investors, which benefit from the bank’s reserve requirements and are owned by the largest lenders.

FGC ensures that each bank has a Brazilian deposit of up to 250,000 reas ($43,816). To attract these customers, the owner pays more on interest than other banks, accounting for 140% of Brazil’s interbank interest rates, called DI.

However, the more masters who use this type of funding to grow, the more deposits it is forced to earn in the FGC according to fund rules. These deposits also increase the owner’s capital costs.

Then there is the new rules for December 2023 that force banks to potentially require FGCs more than six times the shareholders’ equity to start in June 2024 from June 2028, and thus start in June 2028 and keep the Brazilian government more government bonds.

But with its high capital costs, the owner needs assets that are more risky than government bonds. Moody said bonds related to legal claims accounted for 34% of owner loans as of June 2024, and Moody said it accounted for about 175% of the bank’s equity.

In June, FGC had assets of 132.7 billion reais. Master’s time deposits that may require FGC insurance totaled over 28 billion reais in the same month.

If the central bank blocks the acquisition, the Brazilian financial system may face challenges.

Rafael Schiozer, a finance professor at FGV-EAESP in the business school, said about 25% to 30% of resources can be consumed in Banco Master’s hypothetical liquidation or intervention.

“FGC with decapitation will reduce the security of the entire system,” he said.

Master is working to get rid of the FGC business model, but it still depends heavily on the fund. In June 2024, Moody’s Rating said in a report that about 65% of the funding portfolio includes personal deposits, which are mainly obtained through third-party brokerage platforms. 95% in 2022.

In addition, a large portion of Master’s liquidity is composed of credit internet and equity investment funds, which are harder to sell than government securities when needed. Moody’s said that as of June 2024, the funds accounted for 69% of the bank’s current assets.

Master’s Equity Fund owns stakes in companies such as Brazilian cancer care provider and biotech company Biomm SA, such as Oncoclinicas do Brasil Serviços Sa.

Banco Master “continues to show significant concentration in its lending portfolio, as well as substantial exposure to credit interconnections and stocks gained in its securities portfolio, which increases asset risk and opacity in the balance sheet structure,” Moody’s said in a September note.

The pressure forced Vorcaro to seek a deal, and he found a willing partner in BRB. Under the merger agreement, a master’s degree of 51 billion reais in the assets will be included in the 61 billion reais by BRB.

BRB will receive 49% of Master’s voting stock, so Master’s shareholders will still have a voting majority. The owner will remain an independent entity under the BRB brand. BRB will purchase 100% preferred shares and 58% of the bank’s total capital. Vorcaro will join the BRB Board.

For Schiozer, transactions are “non-mandatory hygiene” in Brazil’s financial system. In other words, the industry is seeking to clean up the problem itself without government intervention.

But ultimately, Gallipolo’s central bank decided whether the BRB transactions would make the financial system healthier.

– Assisted with Daniel Cancellation, Martha Beck and Barbara Nascimento.

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