PORTUGAL: An Introduction to Banking & Finance

I. SNAPSHOT OF THE PORTUGUESE ECONOMY IN 2021 

In 2021, the economic impacts of the COVID-19 pandemic still echoed strongly in the Portuguese market. Portugal saw three consecutive lockdown periods in the first quarter, which delayed the awaited economic upturn. In contrast, the vaccination plan rolled out in an effective manner across 2021.

Following the lessons from 2020, businesses continuously strived to adapt to the challenges posed by the pandemic, while also falling back on the comprehensive support framework put in place by the Portuguese government.

Notwithstanding these challenges, Portugal’s GDP grew by 4.9% in 2021, and is expected to reach pre-pandemic levels by mid-2022. Employment, wages and investment also picked up, particularly in the second semester of 2021, registering increases of roughly 4.5%, 2.5%, and 5%, respectively, vis-à-vis the 2020 figures. The budget deficit is estimated to be around 3% of the country’s GDP, and public debt to have decreased by circa 7% of the GDP, comparing to 2020.

In the political realm, the Government’s budget proposal was rejected in October 2021, leading to the dissolution of the Portuguese parliament. National elections took place in January 2022, resulting in a majority for incumbent António Costa’s Socialist Party. The result has been perceived as ensuring political stability and should allow for the state budget to be passed in the near future.

Despite the pandemic risks still looming on the horizon, it seems safe to say that the projections show a much swifter, stronger economic recovery, especially when comparing to the previous recession (2011-2013).

In part (perhaps chiefly), this has been achieved by successfully preventing the spread of the crisis to the Portuguese financial sector, which maintained its stability and ensured access to funding for all economic agents.

Another key driver of the recovery pace has been, and is expected to continue to be, the country’s Recovery and Resilience Plan (RRP), a €16 billion investment plan approved as part of the NextGenerationEU instrument. The EU-originated funds have already began being channelled, in the form of subsidies and loans, since August 2021, focusing on its three structuring dimensions: Resilience, Climate Change and Digital Transition.

II. THE PORTUGUESE BANKING SECTOR AT A GLANCE 

Surprisingly, the Portuguese banking sector was not strongly affected by the pandemic’s economic shocks. Arguably, this was the combined effect of the recent reform to strengthen and deleverage Portuguese banks, on the one hand, and the legislative moratorium put in place during 2020 and 2021, on the other. The fact that Portuguese banks continued to actively support the economy during the pandemic paid off and four main banks based in Portugal recorded, in 2021, an aggregate profit of more than €1 billion.

In 2021, credit granted by banks to the private non-financial sector increased slightly, with the cost of credit averaging around 2% in that sector. Likewise, banks in Portugal registered an increase in deposits, though liquidity has been mainly assured via central banks’ financing.

Furthermore, we have seen a significant improvement on the sector’s returns, both on assets (c. 0.5%) and on equity (c. 5.5%), fuelled in part by an increase in income from financial transactions. Accordingly, major banks have delivered net positive results in 2021, well above the negative figures of 2020. At the same time, solvency and tier 1 capital ratios have remained steady at robust levels.

As far as market trends go, we continued to witness a strong bet in digitisation from banks, shifting to online banking models. As more and more players enter the Portuguese financial market, notably in the segment of fintech, we anticipate that digitisation will continue to be a key driver for banks and other financial players to boost competitiveness and productivity. Whilst a certain ‘hands-off’ approach has been maintained by Portuguese authorities so as not to stifle innovation, we note there have been some regulatory concerns, namely with regard to cybersecurity and fraud prevention.

On the other hand, the end of the public (and private voluntary) moratoria schemes (as of December 2021) is expected to bring an increase of banks’ NPLs ratios. Although this is not yet reflected in the banks’ sheets – with ratios of approximately 4.3% – we have seen an increase in activity in the NPL market with significant debt portfolio sales in the second semester of 2021. Perhaps not as much as initially anticipated, we expect to keep witnessing distressed assets transactions in the course of 2022, with banks monitoring closely both non-performing and stage-2 loans, previously covered by the moratoria. Bearing this in mind, the Bank of Portugal has signalled the risk of deterioration in the quality of the banks’ assets, potentially aggravated by the increase of interest rates in the long run.

What’s more, by the end of 2021, the Directive on Credit Servicers and Credit Purchasers was approved, setting forth a harmonised framework for addressing NPLs originating in EU banks through the creation of a level playing field secondary market. In a nutshell, once the Directive is transposed, credit servicers shall be required to obtain an authorisation in their home member state (subject to certain criteria) but may then passport the authorisation to other EU countries. In turn, EU-based credit purchasers shall be required to appoint a credit institution or an authorised servicer to perform credit servicing activities in respect of consumer NPLs. The transposition of the Directive (until the end of 2023) is likely to further foster the NPL secondary market in Portugal.

Closely related, the cryptoasset market remained a focal point of the financial sector in 2021. In the past year, we have witnessed a growing appetite from both Portuguese investors and virtual asset service providers (VASPs) in the crypto ecosystem. Following the 2020 amendment to the AML Framework, which established the authorisation requirement for VASPs to operate in Portugal, the Bank of Portugal (BoP) issued a regulation laying down the registration procedure for entities dealing with virtual assets – from exchanges to wallet providers. The AML Framework was further amended in 2021 essentially to clarify that virtual assets that qualify as securities or financial instrument shall be treated as such and that offshore VASPs are not captured by the Portuguese AML requirements, including the need for registration with the BoP. We anticipate that investment in crypto-assets will remain a key driver in the Portuguese financial landscape for 2021, while the next regulatory steps are likely to come from EU bodies – notably, with the forthcoming adoption of the Markets in Crypto-Assets Regulation (MiCA).

III. OVERVIEW OF KEY LEGISLATIVE CHANGES IN 2021

The year 2021 brought along several legislative and regulatory developments for the banking sector in Portugal. In general, the developments were aimed at increasing competitiveness and simplifying procedures in light of a growing maturity of the Portuguese financial markets, while tackling new regulatory concerns.

A. Collective investment undertakings 

Important changes to the framework applicable to collective investment undertakings (CIUs) were enacted in 2021, following the transposition of EU Directives that aim to ensure a level playing field for market players and to maintain a uniform investor protection standard.

New rules for cross-border distribution of CIUs have been introduced, notably the establishment of an EU harmonised pre-marketing regime. Specifically, pre-marketing activities in relation to alternative investment funds’ (AIFs) investment activities and strategies may now be conducted by EU-based management entities prior to authorisation, provided that the Portuguese Securities Exchange Commission (CMVM) is notified of such pre-marketing activities.

In addition, off-shore undertakings for collective investments in transferable securities (UCITS) are no longer required to appoint an agent in Portugal for marketing activities, and a new procedure for the termination of the marketing of UCITS and AIFs has been significantly simplified.

B. ESG and sustainable finance 

Another innovative development for UCITS was the inclusion of sustainability objectives in their activity, in line with the EU’s environmental, social and governance (ESG) goals. Pursuant to the transposition of an EC Delegated Directive, UCITS management entities will be required to factor and weigh sustainability risks in their activity, as well as to disclose information on its impact on sustainability, as part of the ESG transparency requirements. Furthermore, these entities will be subject to new general rules of conduct and must have the necessary resources and technical capacity as well as suitable internal procedures and mechanisms for the effective integration of the sustainability criteria.

Along the same path, we expect ESG concerns to remain a key point in the financial regulatory landscape for 2022, especially with regard to climate action and the energy transition. The need to shift to a sustainable finance framework has been increasingly stressed by the European Commission in its recent communication and special report, following the entry into force of the European Climate Law, which set the climate neutrality goal by 2050 and a net reduction in greenhouse gas emission by 55% (vis-à-vis 1990 levels) until 2030. Moreover, the Green Bonds Regulation proposal was presented in mid-2021 as the building block for the European Green Bond Standard, aimed at enhancing transparency and comparability in climate and environmental-friendly investments.

For market players, these developments pose both a challenge and an opportunity. Whilst efforts should be put in order to ensure a swift transition and compliance with the forthcoming ESG requirements, banks and financial players – from issuers to investors – stand to gain from the shift to green finance. Until now, we have seen more than 6.5 billion in green or hybrid bond placements, as well as an offering of €500 million market cap in equity backed by an ESG rating across a multitude of issuers active in very distinct sectors of the economy – e.g. hospitality, construction and cork production.

C. New Framework for Investment Firms 

Also in 2021, the Portuguese government enacted a new framework for investment firms, more closely in line with the EU regulatory landscape. Determined to simplify and foster competitiveness of the Portuguese capital markets, the framework adopts a single type of investment firm, which is no longer subject to the tighter supervisory framework applicable to credit institutions. The new diploma deals with prudential requirements across the board, from authorisation to share capital, fit-and-proper, and governance rules, taking a more proportionate approach. Importantly, the CMVM is now the sole supervisory authority for both prudential and market conduct aspects, putting an end to the overlap between the former and the BoP.

D. Amendments to the Securities Code 

With a similar purpose of increasing the attractiveness of Portuguese capital markets, a far-reaching amendment to the Portuguese Securities Code was put in place in 2021.

Noticeably, the amendment included changes to the rules (1) on qualifying participations (increasing the threshold for disclosing duties), and (2) on voting rights, (providing for multiple-vote securities). It also (3) provided for an ease of squeeze-out requirements, while (4) promoting shareholder and beneficial owners’ participation in the companies’ affairs. In addition, (5) the amendment simplified the rules on public offerings in general, and on takeover bids in particular.

By moving away from gold-plating, the revised Securities Code is likely to have a positive impact in providing flexibility and competitiveness to the Portuguese capital markets, particularly for newcomers.

E. Participative Loans 

In the early days of 2022, the Framework for Participative Loans was enacted and came into force. The framework provides for a hybrid financing mechanism, between equity and debt (or quasi-equity). In essence, the participative loan is remunerated and repaid partially on the basis of the borrower’s results (with payment being subject to the rules on shareholder distributions), and the outstanding loan amounts may be converted into equity, upon default or other events. The framework contributes to the diversification of the available sources of funding for non-financial companies, reducing their dependence on conventional bank lending. It will be interesting to see how such alternative types of lending will play out in 2022 within the general financing landscape.

F. Shadow credit 

The expansion of shadow, unregulated credit granting has been a visible trend in Portugal and other jurisdictions. In the recent past, disruptive solutions have hit the financial markets, presented as alternative mechanisms to conventional lending. Intentionally or not, some of these have leveraged on the regulatory mismatch against credit institutions, namely banks. This has been particularly visible in the fintech segment, prompting discussions around services such as buy-now-pay-later.

In an effort to prevent and combat unauthorised financial activities and to protect consumers, a new, more stringent framework was enacted in 2021. This framework establishes a general duty for market operators to refrain from marketing and recommending financial products and services provided by unauthorised entities. It also sets forth reporting duties in relation to unauthorised banking practices. Additionally, the framework enhances the supervisory powers of Portuguese financial regulators, namely the power to take down websites where said services are unlawfully promoted.

G. The Portuguese Banking Act (still) in store 

In 2020, the BoP had already put forward a draft for a new Banking Activity Act, proposing to restructure the scattered provision governing the banking activity in Portugal into a single, consolidated act. At the same time the draft proposes to transpose the EU banking package (namely, CRD V and BRRD II) into national law. The key changes put forward by the draft act include:

(a) the adoption of a single type of financial company;

(b) a more stringent regime for cross-border transactions with non-EU countries;

(c) new rules on transparency, conflict of interests and transactions between related parties;

(d) new standards for subcontracting by financial companies; and

(e) the expansion of the BoP’s supervisory powers, especially in regards to qualified holdings.

The Portuguese Banking Act proposal is expected to be brought forward to the parliament in the course of 2022.