BBVA bank and Banco Sabadell restarted discussions this week to merge both companies. After the announcement on Monday, shares in the banks surged around 20 per cent.
Bilbao-based BBVA and smaller Sabadell - from Barcelona province - have hired investment analysts to "explore" a merger.
BBVA is currently the second biggest banking group in Spain and Banco Sabadell the fifth. Sabadell is also the owner of Britain's TSB.
If a deal went ahead, which would see BBVA being the dominant partner, it would create the second largest group, behind the soon-to-be-merged Caixabank and Bankia, with 600 billion euros in deposits or managed funds in Spain, excluding overseas operations.
The conversations between the two banks are likely to take several more months and focus in part on overlap between the branch network. BBVA has been less keen on a merger, while Banco Sabadell, due to its smaller size and weaker balance sheet, has been looking for a new partner for some time.
BBVA has just finalised the profitable sale of its operation in the USA and the group remains strong in Latin America, especially Mexico. On Wednesday, its chief executive said that BBVA would only join with Sabadell if it felt it would generate value for shareholders, dampening some of the initial excitement earlier in the week.
The Spanish banking sector has come under increased pressure from national and European regulators to consolidate, faced with reducing incomes due to the coronavirus crisis.
As well as the planned Caixabank and Bankia deal, Malaga-based Unicaja is in ongoing discussions with smaller Liberbank.
Whichever deals go through, next year will see the transformation of high street banks in Spain, with branch closures.
Head of Caixabank explained this week, "We have to make sure that [our] 45,000 employees in Spain and those that stay with the project are fully motivated."