Banks hoping positivity will continue

The collapse of the domestic banking system forced the Government into an EU/IMF bailout programme in Nov 2010.

The prospects for the banking system in the next few years will largely determine whether the country can exit the bailout programme and regain market access at sustainable rates.

To this end, 2012 ended on a positive note for the two pillar banks. Bank of Ireland raised €1bn in new capital through an unguaranteed covered bond in November. AIB raised €500m in November through similar means. The last time an Irish bank tapped the private markets was mid-2010.

The Department of Finance has signalled that it intends weaning the domestic banks off the eligible liabilities guarantee scheme over the first quarter of this year. The scheme costs the banks about €1bn in fees every year and is seen as a major barrier to a return to profitability.

There are still formidable obstacles the banks have to overcome. Permanent TSB, AIB, and Bank of Ireland still have sizeable and mostly loss-making tracker mortgage books.

The Government has been in negotiations with the European Commission about offloading these into an ECB-funded special purpose vehicle. If they are hived off at mark-to-market valuations, it could create a hole in the capital base of pillar banks that would require future recapitalisation.

The personal insolvency legislation is set to be introduced over the next few weeks. The Government hopes it will provide a roadmap for the banks to deal with the massive mortgage arrears problem. According to Central Bank figures, 86,146 residential mortgages with an estimated value of €16.9bn are in arrears of over 90 days.

There are 26,770 buy-to-let mortgages with €7.9bn in arrears of 90 days or more. How this crisis is resolved will have a huge bearing on future profitability of the banks. The next set of Central Bank stress tests are scheduled for July.

The big fear is that AIB, Bank of Ireland, and Permanent TSB refuse to countenance debt writedowns as part of the personal insolvency procedures in an effort to maintain capital levels ahead of the stress tests and beyond. If investors suspect that the banks are sitting on unrecognised losses, then it will weigh on their efforts to attract private investors.

This year is also likely to see further skirmishes between the Government and the banks over the sector’s attempts to boost profits. The pillar banks are still paying relatively elevated levels for deposits, but are not earning enough margin on their products.