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Banca Monte dei Paschi di Siena may not survive the twin threats of a gruesomely expensive takeover gone bad and a derivatives scandal that may result in legal action against the bank’s former executives. (STEFANO RELLANDINI/REUTERS)
Banca Monte dei Paschi di Siena may not survive the twin threats of a gruesomely expensive takeover gone bad and a derivatives scandal that may result in legal action against the bank’s former executives. (STEFANO RELLANDINI/REUTERS)

Derivatives may be undoing of the world's oldest bank Add to ...

Banca Monte dei Paschi di Siena, the world’s oldest bank, was making loans when Michelangelo and Leonardo da Vinci were young men and before Columbus sailed to the New World. The bank survived the Italian War, which saw Siena’s surrender to Spain in 1555, the Napoleonic campaign, the Second World War and assorted bouts of plague and poverty.

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But MPS may not survive the twin threats of a gruesomely expensive takeover gone bad and a derivatives scandal that may result in legal action against the bank’s former executives. After five centuries of independence, MPS may have to be nationalized as its losses soar and its value sinks.

On Friday, after a seven-hour meeting in the Tuscan city of Siena, shareholders of MPS voted in favour of a €3.9-billion ($5.3-billion) bailout as regulators and the bank itself investigated the toxic derivatives trades that are expected to add another €720-million in losses.

The shareholders were furious, accusing the bank of “deception” and acting like a “casino.” Mario Monti, the caretaker Prime Minister who is leading a centrist coalition into the Feb. 25 general election, called for an immediate investigation into the scandal, which has suddenly emerged as the campaign’s hottest political issue. “This episode has to be dealt with [with] the maximum clarity, and those responsible have to be dealt with rigorously,” Mr. Monti said on RAI, the state broadcaster.

The revelation this week of the trades came as a shock to MPS’s shareholders, who had already seen the value of their holdings fall by almost 90 per cent in five years, turning Italy’s third-largest lender into the equivalent of a penny stock. On Wednesday, the Bank of Italy said the “true nature of certain transactions … has emerged only recently, following the discovery of documents kept hidden to the supervisory authority and brought to light by the new management of MPS.”

MPS was founded in 1472 the by General Council of the Republic of Siena to grant loans to “poor or miserable or needy persons” at a low interest rate. Over the centuries, it managed to thrive through continuous reform and expansion. It was protected and nurtured by the Sienese republic, which derived huge amounts of wealth from MPS’s success, turning Siena (pop. 55,000) into one of Europe’s most consistently attractive, wealthy and culturally rich small cities.

Until just a few years ago, when MPS’s problems began, the bank’s status as Siena’s sugar daddy remained intact. The wealth channel was the Fondazione Monte dei Paschi di Siena, the local charitable foundation whose directors come from the city and province of Siena. It owns about a third of the bank (down from 49 per cent last year), giving it access to a dividend gusher that financed everything from free public transportation for the elderly and cattle breeding programs to research and development and sports clubs. In the 15 years to 2010, the foundation received €2-billion in dividends, equivalent to €40,000 for every resident, according to the Financial Times.

The party began to wind down in a hurry in 2007, just before the financial crisis, when MPS, then led by Giuseppe Mussari, paid a stunning €9-billion for Antonveneta, a lender in the Venice region that fell out of the carve-up of Dutch bank ABN Amro. The price was equivalent to 20 times earnings, or about twice the going multiple of rival Italian banks. The deal was approved by Mario Draghi, then head of Italy’s central bank, now the president of the European Central Bank.

Then the financial crisis hit, sending MPS shares into free fall. Management’s decision to load up on Italian sovereign bonds, which plummeted in value during the crisis, turned MPS into a near-failing zombie lender. The foundation suffered immensely, not just from the falling share price, but because it took on €1.1-billion of debt to subscribe to an MPS rights issue.

Both Mr. Mussari, who was chairman, and the CEO were forced out last year. But it wasn’t until just recently that the new management team, led by CEO Fabrizio Viola, uncovered a shocker in the form of derivatives deals gone bad.

In 2008, MPS used a secret contract with Deutsche Bank to conceal a loss of €367-million suffered on a previous swaps deal. A year later, a similar swaps deal was arranged with Nomura Securities.

The derivatives contracts were not disclosed. Reportedly, the contracts backfired and were replaced with even riskier contracts, which also backfired. Losses from the contracts totalled €720-million.

At Friday’s shareholders’ meeting, chairman Alessandro Profumo said the bank “would seriously consider taking recourse to legal action against the former managers.”

The people of Siena are wondering whether the MPS gravy train will ever return. The only other institution in Italy that has outlived MPS – the Vatican – is one they adore. But unlike MPS, the Vatican doesn’t pay.

Follow on Twitter: @ereguly

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