By Marcela Ayres and Ricardo Brito

BRASILIA (Reuters) -Brazil’s central bank on Tuesday effectively halted operations of mid-sized lender Banco Master, which had struggled in recent months with mounting liquidity pressures, as police arrested its controlling shareholder.

The regulator named a liquidator to handle creditor claims and sell assets, closing a turbulent chapter for Master, which had grown rapidly through an aggressive strategy built on high-yield debt sold through investment platforms.

Brazil’s central bank said in a statement later on Tuesday that it acted in response to a “severe liquidity crisis” at the Master conglomerate, a “sharp deterioration” in its finances, and “serious violations” of financial-system rules.

PRIVATE GUARANTEE FUND FGC TO TAKE HIT

Although the regulator stressed Master’s limited size – 0.57% of Brazil’s banking assets and 0.55% of funding – its liquidation is expected to hit hard the private guarantee fund FGC, financed by bank contributions and used to cover investor losses up to a limit.

FGC said 1.6 million creditors have deposits and investments eligible for its guarantee, totaling about 41 billion reais ($7.71 billion) – a third of the liquid resources it had in cash as of September.

“This event only increases confidence in the FGC. Everyone who meets the criteria will be fully reimbursed,” Daniel Lima, the fund’s president, told Reuters, adding payments could begin in an average time of 30 days.

Separately on Tuesday, Brazil’s federal police said they had launched an operation against “the issuance of fraudulent credit securities by financial institutions.”

Police did not name the targets of the raid, which sought to freeze 12.2 billion reais ($2.28 billion), but two sources with direct knowledge of the situation said Master’s controlling shareholder, Daniel Vorcaro, was arrested. His arrest was later confirmed by his lawyer, Roberto Podval.

Podval told Reuters he would file a legal request for Vorcaro’s release, questioning the Brazilian authorities’ decision to arrest him.

“If they already liquidated the bank and froze operations, what is the point of the arrest?” he said.

According to Podval, Vorcaro was found at the Guarulhos airport, in Sao Paulo state, ahead of a trip to Dubai to negotiate the sale of Master. He denied that Vorcaro had any intention of fleeing the country.

Master did not respond to requests for comment.

BRB CEO REMOVED FROM OFFICE

The police investigation involves the sale of assets of Master’s loan portfolio to BRB since last year, a third source with direct knowledge said. The state-run bank had planned to acquire Master, but the deal was blocked by the central bank in September.

Brazil’s federal police said they launched an investigation in 2024 at the request of federal prosecutors into alleged fabrication of nonviable credit portfolios by a financial institution. The portfolios were reportedly sold to another bank and later replaced with other assets without proper technical evaluation, it added in a statement.

BRB said in a statement that a local court had ordered the suspension of its CEO Paulo Henrique Costa from his position for 60 days. Costa did not immediately respond to a request for comment.

A fourth source said that the federal police had served search and seizure warrants at BRB’s headquarters.

“BRB emphasizes that it has always acted within transparency and compliance standards. … The bank continues to operate normally,” BRB added.

Federal District Governor Ibaneis Rocha tapped Celso Eloi, a superintendent at state-run lender Caixa, to replace Costa. Shares in BRB opened down 5%, but later pared losses.

The central bank’s order of an extrajudicial liquidation came just hours after a consortium led by Brazilian investment group Fictor and unnamed investors from the United Arab Emirates said they had agreed to buy Master.

Fictor said on Tuesday that the proposed deal for Vorcaro’s stake in Master, which included an immediate injection of 3 billion reais but required approval from the central bank and antitrust regulator CADE, had now been suspended.

“We reaffirm our absolute respect for the central bank and other regulatory bodies, as well as our commitment to integrity, transparency and the stability of the Brazilian financial system,” Fictor said in a statement.

MASTER’S LIQUIDITY ISSUES

Master’s high-yield debt was marketed as being covered by the FGC deposit insurance fund, which guarantees up to 250,000 reais ($46,926) per investor in the event of a bank’s failure.

Faced with liquidity pressures, Master needed fresh capital to meet upcoming maturities on the debt.

With Master in liquidation, a central bank-appointed administrator will now take over its management and assemble a detailed list of the bank’s debt holders. 

IMPACTS ON BUSINESSES, PENSION FUNDS

Shares of medical group Oncoclinicas, a well-known Master creditor, fell as much as 13%. The company said in a filing its book exposure was 216 million reais, after it had provisioned roughly the same amount following a downgrade of the bank’s credit rating.

Rioprevidencia, the pension fund for retired servants in Rio de Janeiro state, said in October it had invested about 960 million reais in financial bills issued by Banco Master, a type of security not covered by the FGC.

Amprev, a pension fund for retired servants from the state of Amapa, also disclosed in its latest report a 426 million real investment in Master’s financial bills.

Rioprevidencia and Amprev did not immediately respond to requests for comment.

($1 = 5.3211 reais)

(Reporting by Marcela Ayres and Ricardo Brito; Additional reporting by Luciana Magalhaes and Rodrigo Viga Gaier; Editing by Alexander Smith, Will Dunham, Rod Nickel)