Tag Archives: Bank of Ireland

Banks, SMEs and relationship banking

BoI Survey talk UpdatedThe last few weeks have seen the launch of two reports on SME Finance. One was the now regular Department of Finance report on credit conditions, the other a Bank of Ireland report on the financial situation of tech orientated SME’s, this drawing in large part on work conducted by a PhD student under my supervision. I launched the latter – my speaking notes are here BoI Survey talk Updated :   and the report here Bank_of _Ireland_ Technology_Research_Embargo. Overall the picture is, as always, mixed.
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Hyperbolics, Banks and Elections

There is an interesting opinion piece in the Irish Times today, by Michael Noonan, the finance minister.   It is being spun as “were going to get our money back from the banks”.   This is not the first or second time of course we have heard that we are going to get the money back, and it will not be the last.  We need to take enormous caution when interpreting what politicians say, especially when they talk about banks, and especially when they talk about banks in the run-up to an election. Continue reading

The cloud of delusion in the silver lining of Irish recovery

This is a version of my column in the Irish examiner 11 January 2014 . Every silver lining, they say, has a cloud.  Or is it the other way round? The new year has certainly got off to a bang in terms of the nascent Irish recovery. In the last week we have seen three developments which on the face of it seem to be proof positive that we have moved forward turned the corner to face green shoots and so forth. The NTMA succeeded in getting away a bond issue, so also did Bank of Ireland, and Michael Noonan was voted Best Finance Minister in Europe. While all three are nicer than stories about the impoverished of south Dublin resorting to hunting and eating rats with wings, none of them actually amount to much more than the return of delusion.The question is – who is deluded.


deal_with_it_funny_bond_trader_plate-rbd63e395d5a84dfba552f30158567451_ambb0_8byvr_324Lets take the last one . Its ego boosting to Michael Noonan, one can be sure, to be so voted. And in so far as we have a representative democracy we should bask in the wan reflection. For sure the credit goes to the Irish people who have knuckled under (or left) and sorted out the mess of the Ahearn era (for which of course they had voted in majority numbers). Its certainly less embarrassing than the 2009 and 2010 rankings when the then minister , Brian Lenihan, was ranked at or amongst the worst. However, the rankings are really nothing to do with the minister and all to do with the economy. In so far as the finance minister has an influence on the economy and its performance reflects theirs, then there is a relation. But the reality is that Noonan is lucky (as Lenihan was unlucky) in that Ireland has been determined to be the best boy in class, taking its beatings and not complaining. The whining noise from the proles is a mere irritant to the financial markets who applaud (while simultaneously laughing up their sleeves at ) us for paying all our debts and more.
11-landed_on_taxpayerIn the case of bank of Ireland we see the raising of 750m in unsecured unguaranteed bonds by the bank. This cost them approx. the same as the government ten year, and around 1.25% over the government 5 year rate. This again is hailed as being a great harbinger of recovery. It is not. We have seen unsecured unguaranteed senior bonds being repaid not by the issuer but by the taxpayer time and again. There is no doubt in my mind that this would happen again. These are as secure as government debt, in practice, when you are a too big to fail bank, as for us BoI most surely is. So again – why ask for a premium when you know you need none – its either delusion as to the real state of repayment or simple greed. In any case, we need to see banks becoming more reliant on deposit base not on bonds. Irish banks have reduced the percent of assets financed from international bonds from the low teens (at the height of the property boom) to about 3% now but domestic deposits still only account for 1/3 of all funding . This needs to be significantly increased. The paper by Thorsten Beck, the world ranking expert on banking crises and their aftermath, suggests that Irish banks remain in a parlous position. But having created the Two and Half Men of Banking (albeit not remotely as funny) the government cannot now express anything but approval and confidence in anything the banks do, including this. We have exchanged too big to fail banks for really and truly too big to fail banks, and there is no reason why they should not act in as foolish a manner as they have before. Whats the downside?

michael-noonan-fingersIn the Draghi era, where the ECB shows its muscle without having to use it, our bond yields have collapsed – that means prices have risen, gifting massive profits to the holders who calculated that no bond would burn. Combined with the exporting of much of the unemployable youth, a plethora of state activation actions to prepare people for jobs (whenever they happen) and a rise in desperate entrepreneurs we have reversed headline unemployment. To top that we have swallowed the austerity medicine to move to a near primary surplus – that is that we now more or less pay our way on a daily basis so we can slap down hard those that gibber “sure were borrowing billions to pay the <insert public sector/welfare media target de jour>” . Noonan has been lucky and has made his luck – a canny hardened politico he knows how to do that and who can begrudge him this valedictory honour. But its as ephemeral as morning mist.

LoanSharkOn the Markets we are also being lauded. The NTMA had a good week, in that there was massive demand for Irish ten year debt – it could have sold 14b worth of debt when it wanted to get 3b. Irish bonds are now seen as safe, and indeed there is a clear trend for much greater convergence of bond yields across the euro zone. This is strange, not that there is slow convergence but that there is any remaining divergence. There is no prospect, apart from perhaps Greece and Portugal, that sovereign bonds of euro zone countries will be allowed default. None. Therefore these are as risky or not as Germany. That is the logic of the Draghi Era – no sovereign bondholder will be burned. So why is the market not believing that? The premium for these bonds cant be liquidity – there is no problem in moving the majority of these bonds for cash. So why is there a remaining premium? Clearly either the markets are deluded and do not accept that despite all the evidence that European economies will go to the wall to repay debt there remains a risk, or governments are deluded that they can continue to do this into the future. Or both. Markets will continue to lend regardless of the reality of the macro economy so long as they are confident of getting their money back. Being willing to lend is one thing but we should not be willing to borrow regardless.

debtdestroyer_sinkingfundsHistorically governments set aside in the budget a sum of money into what was called a “sinking fund”. That was designed to pay off the principal of monies borrowed. Somewhere in the eighties we got out of that habit. We now are in effect borrowing on an interest only basis and need to get back to the habit of repaying debt without incurring further borrowing. the household as state as household analogy is a really bad one, but it has some power. We are (not really but its an analogy) like a household that has borrowed money; we pay the interest not from earnings (these go to running household expenses more or less in toto) but from further borrowings. When the loans come due we borrow from another source to repay them, and on it goes. We used, as noted, set aside some monies each year to repay the loans in toto, the sinking fund. Such old fashioned fiscal prudence needs to be revisited. Right now we are facing into an era of low nominal GxP growth . In that environment, we can only ensure that we do not increase our debt/ GxP ratio by actively reducing debt. This habit should become ingrained and not be simply a reaction to critically high levels.

Irish Banks : Arrears, Deposits, Bail-in and Interest Rate Editon

This is an edited and extended version of a column in The Irish Examiner 26 October 2013

There is a great book on marketing titled “the long tail” , which stresses that instead of trying to hit millions of customers at once its perhaps better to do millions of niches. Replete with examples it was and remains a deserved hit. The long tail refers to the distribution of something – a large bulk at one end quickly trailing off to smaller numbers but which go on for a long time. Another word for this is skewness. In very many skewed distributions it is common for the total amount in the long tail to be equal to or greater than the amount in the bulk. Another way of thinking of this is a power law. Many many things have been found to follow power laws – terrorism, population of cities, bibliometrics, income distribution… theres no reason to think Irish bank losses are different.

download (1)The long tail approach is worth considering as we move into the sixth year of this crisis.  Having dealt with the massive mess of the commercial property and developers loans via hiving them off to NAMA (which has yet to “get credit flowing” as its cheerleaders in the then government and some still prominent stockbrokers trumpeted) , the long tail of the mortgage and SME loans continue to erode the banks. We are moving down the tail with the average loss getting smaller but there are an awful lot of them. Today I spoke to a SME owner who runs a small distribution business. He had settled with a bank for a loan taken out in 2006 which resulted in the bank taking a loss of just under €1m. The business is still going, much reduced but “ticking over nicely”. This is as good as it gets – a viable business remains. Many many SME loans are for larger amounts and the banks will take a larger hit as there is nothing left. I think of someone  I know who purchased a house in 2006 for €450k, interest only of course, in a  not very fashionable holiday area, where similar homes are selling at €150k on a good day. These are the long tail and they are wagging the dogs of our banks as the banks chase them round in a circle.

Basel-IIIAt present Irish banks are well capitalized. Some might say that in a classic overreaction to the lack of adequate capital buffers in the past they are over capitalized. Bank capital is a two edged sword. On the one hand the more capital they have the greater a buffer exists to absorb losses. On the other, as capital is measured as a percentage of assets the more capital is required then all things considered the smaller will be the assets. A bank that has a 10% capital ratio will be able to make more loans (assets) than one that is required to hold a 15% ratio. The ECB has recently announced that it will conduct another round of stress tests. These are required, in essence, so that the final set of capital injections will be made prior to the ECB taking over full control of regulation. The political reality is that this step, a necessary requirement for a proper banking union, will require that individual states make or supervise any capital injections. In a banking union this will be the responsibility of the union, and thus the German taxpayer might be on the hook. But not this last time.

gpyugoWe have known for some time that the Irish banks will require additional capital. The state of the mortgage book is bad but the state of the SME loan book is also dire. Earlier this year we found out that  50% of the SME loan book was in distress.  There is a total of €70b in SME lending, of which an astounding €30b is still outstanding to real estate. A multibillion loss is an absolute certainty.   On the mortgages we have similar. The question that should raise its head is : who bears these losses. Traditionally the order of losses was deemed to be shareholders -> junior bondholders -> deposits and senior bonds. The taxpayer might then step in and recapitalize if the bank was deemed to be needed.  So in the Irish case 2008 saw some but not all junior bondholders and almost all equity destroyed, but the system balked at that and so in stepped Paddy with his chequebook. And we know how that ended. We saw in Cyrpus, and indeed have seen in the liquidation of IBRC that depositors can and in future will be “bailed in”. This is fine and dandy if all other sources of capital have been burned through. The problem is that recent statements by Mario Draghi suggest that bondholders might be spared in future, for fear that once burned they might not return. In other words the sovereign would be required to make a decision as to whether they would absorb losses or instead force bailins on depositors. There is zero willingness for the Irish state to add more taxpayer money into the banks. Thus the question becomes: do the banks hae sufficient buffers in place to absorb losses before the question of depositors comes into play?

hqdefaultOn a macro level they are good. AIB has shareholders funds of c 10b, BOI of 8b and PTSB 2.4b.  In the case of PTSB and AIB much of these shareholder funds are in fact state funds, so any erosion of these is an erosion of taxpayer funds. The problem is that as we noted they are required to hold funds at a certain level. This level is higher than the European requirements. Thus as losses get booked the banks will have to either raise additional funds. This, in sufficient amounts, is I submit unlikely. While they have had some success in raising limited amounts these have either been expensive or have required significant security. In addition, the banks face rollovers of existing issued debt. Bank of Ireland will need to roll over or pay off bonds of 9.5b in 2014-2015, AIB 7.5b and PTSB 5b n the same period. This will tax them significantly. If they face a requirement to otherwise increase capital from losses that will make the job that much more difficult. A large part of the outstanding bonds are senior notes, some 7b. A large part of the remaining is covered or asset backed. Only some 5b or so across the banks, mainly in Bank of Ireland, are unsecured or subordinated. Bank of Ireland has the largest “burnable” buffer but is the one least likely to require it. AIB has very little unsecured debt and less than 4b senior debt. We have seen that even the mention of senior debt being burned, where legally possible, has caused significant negative market reaction. Thus where there is no taxpayer backstop and either no bondholders or no willingness to burn them, inevitably deposits must come into play. In that context depositors should seek a higher rate than they are at present getting.

browseChartThe chart shows the deposit rate on new deposits for an agreed maturity, Ireland v Germany. Deposits that were ten years ago seen as close to riskless as it is possible to be are no longer so perceived. The difference between Irish and German deposits is not, I suggest, sufficient to reward for the relative risk differential. Although small, the risk of depositor bailin in Ireland is many many times larger than that in Germany. These risks are the worst sort- small probability large outcome risk. It is time that the banks begun to remunerate depositors  appropriately for the risk, small that it is, that they are being asked to bear.  We need to move away from a banking system that is dependent in large part on loan capital towards one that is dependent on deposits. In fact, in the last week we have seen the situation worsen. The increase in DIRT means that deposits are now paying less than the already paltry levels. Combined with the loss of ACC , closing after 86 years, this further erodes competition, even if ACC was a small player. Expect pressure on interest rates to be downward, relatively speaking, on deposits. Which are now risk capital and in the firing line.