Banking Law and Hybrid Financial Products in Spain

1. Introduction

Hybrid financial products occupy an important position in Spanish banking and securities law because they combine characteristics of debt, equity, derivatives, or other financial instruments. They are designed to provide issuers—particularly banks—with flexible methods of raising capital, while giving investors returns that may depend on the issuer's profits, market prices, interest rates, or conversion mechanisms.

The Spanish securities regulator, CNMV, identifies preferred shares (participaciones preferentes) and convertible/exchangeable bonds and obligations as principal examples of hybrid products. Preferred shares can be perpetual, may have variable returns dependent on distributable profits, and can expose investors to substantial capital loss.

Spanish law therefore approaches hybrid products through several overlapping areas:

• banking regulation;
• securities-market regulation;
• investor protection;
• corporate law;
• prudential capital regulation;
• contractual law;
• EU banking and financial-services law; and
• bank-resolution law.

2. Meaning of a Hybrid Financial Product

A hybrid financial product is an instrument that contains characteristics of more than one traditional financial category.

For example:

Spanish accounting legislation also expressly recognises hybrid financial instruments, describing them as arrangements combining a non-derivative host contract with an embedded derivative whose effects alter the instrument's cash flows.

3. Why Banks Use Hybrid Financial Products

Banks use hybrid instruments for several purposes.

A. Capital raising

A bank can raise funds without issuing ordinary shares immediately.

B. Regulatory capital

Certain subordinated and hybrid instruments can, when they satisfy applicable prudential requirements, contribute to regulatory capital.

C. Risk absorption

Some instruments are deliberately structured so that investors absorb losses before senior creditors when the bank experiences financial distress.

D. Funding diversification

Banks can obtain financing from different classes of investors rather than relying exclusively on deposits or ordinary debt.

E. Conversion into equity

Convertible instruments can transform debt-like claims into equity under predetermined circumstances.

4. Main Spanish Legal Framework

A. Securities-market legislation

Spanish securities regulation governs the issuing, marketing and distribution of financial instruments.

The modern framework is principally connected with:

• Securities Markets and Investment Services Law;
• EU MiFID II;
• EU Prospectus Regulation;
• market-abuse rules;
• investor-protection requirements;
• CNMV supervisory rules.

The historical Spanish securities legislation and jurisprudence contain extensive case law concerning information duties and complex financial products. The official jurisprudential material records, for example, Supreme Court cases involving convertible bonds, structured products, subordinated instruments and preferred shares.

5. Preferred Shares

Meaning

Participaciones preferentes are one of the best-known Spanish hybrid banking products.

They occupy a position between ordinary debt and ordinary equity.

According to CNMV:

• they generally have no maturity date;
• remuneration may initially be fixed and subsequently variable;
• payment can depend on the existence of distributable profits;
• they are complex products;
• investors can lose part or all of their capital;
• they are normally highly subordinated to other creditors. 

Legal characteristics

A preferred share generally has:

1. no ordinary voting rights comparable to ordinary shares;
2. preferential economic rights compared with ordinary shares in certain respects;
3. substantial subordination;
4. potentially discretionary remuneration;
5. perpetual or very long-term characteristics;
6. significant loss-absorption capacity.

This explains why courts have repeatedly examined whether retail customers actually understood what they were purchasing.

6. Convertible Bonds

A convertible bond begins as a debt instrument but may subsequently be converted into shares.

The investor initially receives interest according to the terms of the instrument. At conversion, the investor receives shares according to the predetermined conversion mechanism.

CNMV explains that conversion involves transforming one financial asset into another, and the prospectus must specify matters such as conversion dates, conversion ratios and the method of determining the relevant price.

Spanish corporate legislation also regulates convertible obligations. For example, the Spanish Companies Act places restrictions on the issue and conversion of convertible obligations and regulates preferential subscription rights.

7. Contingent Convertible Bonds — CoCos

A CoCo is a particularly important bank hybrid instrument.

Its basic structure is:

Debt-like instrument → regulatory trigger → conversion/write-down → capital strengthening

For example, if the issuing bank's regulatory capital falls below a specified threshold, the instrument may:

• convert into ordinary shares; or
• suffer a partial/full principal write-down.

The purpose is to transfer some loss-absorption capacity from the bank's balance sheet to the hybrid capital instrument.

CoCos are therefore particularly relevant to:

• CRR capital requirements;
• bank resolution;
• bail-in;
• systemic-risk regulation;
• investor protection.

8. Subordinated Debt

Subordinated debt is legally debt, but its position in the creditor hierarchy is lower than ordinary senior debt.

The basic hierarchy can be illustrated as:

Depositors / senior creditors

↓

Subordinated creditors

↓

Additional Tier 1 / other eligible capital instruments

↓

Ordinary shareholders

The exact ranking depends upon the instrument and applicable resolution/capital rules.

This distinction became especially important during the Spanish banking crisis because retail investors were sometimes exposed to subordinated products whose risk characteristics they did not fully understand.

9. Structured Financial Products

A structured financial product combines a traditional financial instrument with an additional mechanism—often a derivative.

Examples include:

• bonds linked to an equity index;
• notes linked to shares;
• interest-rate-linked instruments;
• currency-linked products;
• products containing embedded options.

Spanish accounting legislation expressly discusses hybrid instruments containing embedded derivatives.

The legal difficulty is that the investor may perceive the product as an ordinary deposit or bond even though its economic characteristics are considerably more complicated.

10. Investor-Protection Principle

One of the most important issues in Spanish hybrid-product litigation is information and suitability.

The bank may need to explain:

• the nature of the product;
• maturity;
• liquidity;
• possibility of early redemption;
• loss of principal;
• subordination;
• conversion conditions;
• remuneration conditions;
• market risk;
• issuer credit risk;
• costs;
• consequences of selling before maturity.

The greater the complexity of the instrument, the more significant the information and assessment obligations become.

11. Six Important Spanish Case Laws

Case 1 — Banco Santander / Subordinated Debt, STS 105/2020

Supreme Court, Civil Chamber — 19 February 2020

This case concerned claims arising from the marketing of subordinated debt.

The Supreme Court found that the financial institution had failed to comply adequately with its information obligations. The evidence indicated that the customer had been led into error regarding important characteristics of the product, including its real nature, risks associated with interest-rate movements and the high cost of cancellation.

The Court also addressed the calculation of damages, holding that benefits obtained from the financial product could be taken into account when determining the final compensation.

Legal significance

The case demonstrates that:

information about a hybrid/subordinated product must allow the customer to understand its economically significant risks.

It also demonstrates that Spanish courts can distinguish between breach of information duties and the quantification of resulting damages.

12. Case 2 — STS 40/2020: Preferred Shares and Subordinated Products

Supreme Court — 16 January 2020

The case involved claims concerning preferred shares and subordinated financial products.

The Supreme Court dealt with the consequences of inadequate information and the calculation of compensation.

The Court applied the principle that where an investor received economic returns from the product, those returns could affect the amount of compensation ultimately recoverable.

Importance

The case illustrates two separate legal questions:

1. Was the financial institution's conduct legally deficient?
2. What financial consequences follow from that deficiency?

These questions should not automatically be treated as identical.

13. Case 3 — STS 86/2020

Supreme Court — 16 January 2020

This decision also concerned claims involving preferred shares and subordinated financial products.

The Supreme Court reiterated the approach that compensation should account for both:

• the investor's loss; and
• economic advantages obtained during the period of investment.

The Court therefore treated compensation as a matter of restoring the investor's legally protected position rather than automatically returning every amount originally invested irrespective of prior benefits.

Legal principle

The case is useful for understanding the compensatio lucri cum damno approach—roughly, benefits received may have to be considered when calculating damages.

14. Case 4 — STS 117/2020: Eroski Subordinated Contributions

Supreme Court — 22 January 2020

This case concerned Eroski subordinated contributions and allegations of error in consent.

The litigation involved questions concerning:

• the complex nature of the investment;
• investor understanding;
• information provided before contracting;
• error in consent;
• limitation/caducity of the relevant action.

The Supreme Court's jurisprudence on these products illustrates the importance of determining what the investor actually knew about the characteristics and risks of the product.

Importance for banking law

A complex financial product cannot be analysed solely from its formal contractual name. Courts may examine the circumstances surrounding its marketing and the information actually supplied to the customer.

15. Case 5 — STS 2014/2020: Convertible Bonds

Supreme Court — 22 June 2020

This case concerned the subscription of financial products consisting of bonds convertible into shares.

The official jurisprudential material identifies the case as concerning the annulment of an order for subscription of convertible bonds and the issue of caducity of the action.

Importance

Convertible bonds illustrate why hybrid products are legally complicated:

Before conversion:
Debt-like characteristics.

At conversion:
Equity exposure.

Therefore, the investor's economic risk can change substantially over the life of the instrument.

16. Case 6 — STS 1596/2020: Structured Financial Products

Supreme Court — 12 June 2020

This case concerned structured financial products and an action based on alleged error in consent.

The Supreme Court examined, among other matters:

• the investor's knowledge of the risks;
• the circumstances existing before signature;
• the experience of the investor/administrator;
• previous contracting of similar financial products.

The action was ultimately rejected on the facts of that case.

Legal significance

This case demonstrates that Spanish courts do not necessarily treat every investment loss as evidence of inadequate information.

The analysis can depend upon:

• the actual information provided;
• the investor's experience;
• the investor's knowledge;
• the product's characteristics;
• the circumstances surrounding the transaction.

17. Case 7 — Banco Popular and Convertible Subordinated Bonds

A particularly important modern development concerns Banco Popular and instruments that were converted into shares before the bank's resolution in June 2017.

The Court of Justice of the European Union has been asked to consider whether claims arising from the marketing of necessarily convertible subordinated bonds could be affected by the EU bank-resolution framework following Banco Popular's resolution.

The question illustrates the interaction between:

• hybrid financial products;
• investor claims;
• bank resolution;
• write-down/conversion;
• successor liability;
• the EU Bank Recovery and Resolution Directive.

This is important because hybrid-product litigation cannot always be analysed solely through ordinary contract law once a bank enters formal resolution.

18. Case 8 — Banco Popular Shareholder Litigation

The Spanish Supreme Court has also dealt with claims brought by Banco Popular shareholders following the bank's resolution.

A 2025 Supreme Court decision reiterated the significance of the EU bank-resolution framework and the CJEU's interpretation of the consequences of Banco Popular's resolution. The Court noted that certain restitutionary or liability actions concerning shares could be incompatible with the resolution framework because of the cancellation/write-down of the relevant instruments.

Although this concerns shares rather than a classic preferred-share dispute, it is highly relevant to the broader legal treatment of bank-issued financial instruments.

19. Relationship Between Hybrid Products and Bank Resolution

This is one of the most important areas of modern Spanish banking law.

When a bank fails, the normal contractual relationship between investor and bank may be affected by resolution legislation.

The basic resolution sequence can involve:

1. identification of losses;
2. absorption of losses by shareholders;
3. reduction/write-down of eligible instruments;
4. conversion of certain instruments into equity;
5. recapitalisation;
6. transfer or sale of assets/business;
7. protection of critical banking functions.

Therefore:

Hybrid product law + prudential regulation + resolution law

must often be analysed together.

20. MiFID II and Hybrid Products

MiFID II is particularly important for retail distribution of complex financial instruments.

The regulatory framework distinguishes between:

Execution-only situations

Certain products may be capable of being sold without full suitability assessment where statutory conditions are satisfied.

Appropriateness assessment

The institution assesses whether the customer has sufficient knowledge and experience to understand the risks of a particular product.

Suitability assessment

Where investment advice or portfolio management is involved, the institution considers factors such as:

• knowledge;
• experience;
• financial situation;
• investment objectives;
• risk tolerance.

Hybrid products frequently fall into the category where investor-protection requirements become especially significant.

21. Prospectus and Disclosure Requirements

Where securities are publicly offered or admitted to trading, prospectus rules can become relevant.

The prospectus should provide investors with material information concerning:

• issuer;
• financial position;
• characteristics of securities;
• risk factors;
• terms;
• rights attached to securities;
• applicable conversion mechanisms.

For hybrid instruments, disclosure of subordination and loss-absorption mechanisms is particularly important.

22. Corporate-Law Dimension

Convertible obligations also have a corporate-law dimension.

Under Spanish corporate legislation, convertible obligations are subject to statutory rules concerning:

• issue;
• nominal value;
• conversion;
• shareholders' preferential subscription rights;
• exclusion of preferential rights under specified conditions.

The Spanish Companies Act specifically regulates restrictions on issuing and converting convertible obligations.

Thus, the validity of a hybrid instrument can involve both:

Banking/securities regulation

and

company law.

23. Regulatory Capital Dimension

Hybrid instruments are also important because banks must maintain adequate regulatory capital.

Under the EU prudential framework, instruments that qualify as regulatory capital can absorb losses according to their category.

Broadly:

CET1

Ordinary equity and the strongest form of loss-absorbing capital.

AT1

Includes certain perpetual instruments capable of absorbing losses, such as qualifying Additional Tier 1 instruments.

Tier 2

Includes qualifying subordinated instruments with different loss-absorption characteristics.

The legal classification of an instrument therefore matters considerably.

A product called a "bond" does not necessarily mean it is treated like an ordinary senior bond for prudential purposes.

24. Consumer-Protection Dimension

Retail investors present a special regulatory challenge.

A bank may have a technically accurate prospectus while the individual customer still may not understand:

• perpetual maturity;
• subordination;
• lack of guaranteed coupon;
• conversion risk;
• issuer-credit risk;
• market-price volatility;
• possibility of principal loss.

Spanish litigation concerning preferred shares and subordinated products demonstrates the importance of the quality and adequacy of information, rather than merely the existence of documentation.

25. Liability of Banks

A bank may potentially face different forms of legal liability depending upon the circumstances.

Contractual liability

Failure to comply with contractual obligations.

Pre-contractual/information liability

Failure to provide legally required information before the investment.

Misrepresentation/error

The investor may argue that inadequate information caused an error concerning essential characteristics of the product.

Regulatory liability

Supervisory authorities may impose measures or sanctions for regulatory breaches.

Prospectus liability

Incorrect or incomplete information in an applicable prospectus can generate legal consequences.

26. Why Hybrid Products Create Legal Difficulties

Hybrid products create a classification problem.

Consider a convertible bond:

Debt

→ coupon

→ repayment claim

→ conversion option

→ equity exposure

Similarly, a preferred share may contain:

Equity

→ subordinated position

→ discretionary remuneration

→ perpetual duration

→ debt-like distribution mechanism

Therefore, traditional categories such as "share" and "bond" are not always sufficient to explain the actual economic risk.

27. Major Legal Issues in Spain

28. Difference Between Ordinary Bonds and Hybrid Products

29. Importance of CNMV

The CNMV plays a central role in Spanish securities-market supervision.

Its investor materials specifically identify preferred shares and convertible/exchangeable bonds as hybrid products and warn that these instruments can involve substantial risk and capital loss.

Its jurisprudence database also provides access to Spanish financial-market case law.

30. Role of Banco de España

Banco de España is central to the prudential supervision and regulatory framework applicable to Spanish credit institutions.

Its financial-regulation database contains Spanish and EU financial legislation, together with Banco de España circulars and related regulatory material.

Its role becomes particularly relevant where hybrid instruments concern:

• bank capital;
• prudential requirements;
• governance;
• risk management;
• banking supervision;
• regulatory reporting.

31. Relationship Between the Main Regulators

A simplified structure is:

Banco de España

→ banking supervision and prudential matters

CNMV

→ securities markets and investor protection

European Central Bank

→ significant-bank supervision within the Single Supervisory Mechanism

European Banking Authority

→ EU banking regulatory standards

FROB

→ Spanish bank-resolution framework

Courts

→ contractual, civil, commercial and administrative disputes

Thus, hybrid products frequently sit at the intersection of several regulatory institutions.

32. Key Doctrinal Principles From Spanish Case Law

The Spanish jurisprudence concerning complex financial products demonstrates several recurring principles:

1. Product complexity matters

A complex instrument requires meaningful explanation of its essential risks.

2. Documentation alone is not always decisive

Courts can examine whether information was actually sufficient in the circumstances.

3. Investor experience can matter

The knowledge and previous experience of the investor may be relevant to whether an alleged error existed. This is illustrated by the Supreme Court's treatment of structured products in STS 1596/2020.

4. Investment loss does not automatically establish liability

The court examines the legal duties and circumstances surrounding the transaction.

5. Damages require calculation

Where an investor received returns, those returns may affect the amount recoverable, as illustrated by several 2020 Supreme Court decisions.

6. Bank resolution can override ordinary restitutionary expectations

Banco Popular litigation demonstrates the importance of the EU resolution regime when hybrid or equity instruments are affected by resolution measures.

33. Important Case-Law List for Examination

For an examination or assignment, the following cases are particularly useful:

The first six are especially useful for explaining the private-law/investor-protection dimension, while the Banco Popular matters demonstrate the newer resolution-law dimension.

34. Conclusion

Spanish banking law treats hybrid financial products as instruments requiring analysis across securities law, banking law, corporate law, contract law, investor protection, prudential regulation and bank-resolution law.

The principal examples are:

Preferred shares → subordinated debt → convertible bonds → structured products → CoCos → other capital instruments.

Their central legal characteristic is that they do not fit neatly into traditional categories of debt or equity.

Spanish jurisprudence has consequently placed considerable importance on:

• adequate investor information;
• understanding of complex risks;
• suitability and appropriateness;
• investor experience;
• contractual consent;
• compensation principles;
• subordination;
• conversion;
• and, increasingly, the consequences of bank resolution.

The Spanish experience with preferred shares, subordinated products and Banco Popular demonstrates why classification, disclosure, investor protection and resolution rules must be studied together when analysing hybrid financial products.