Banks ‘will not need more capital’

The banks will not need further capital following the next round of EU-wide stress tests scheduled for 2014, according to Merrion Stockbrokers’s senior credit analyst, Ciaran Callaghan.

“However this assumes that the Irish exercises are subject to the same level of stress parameters and methodology facing European peers in equivalent tests, with no additional requirements to reach new Basel III capital or leverage ratios on a fully-loaded basis,” he said in a research note on the banks.

Mr Callaghan forecasts that impairment charges for Bank of Ireland, AIB and Permanent TSB will reach €27bn by the end of this year, which is just shy of the €27.7bn adverse scenario outlined in the Mar 2011 Central Bank stress tests.

However, the three banks made savings of €7.7bn during their deleveraging process, which will help underpin capital levels.

The banks have to meet Central Bank imposed targets in dealing with mortgage arrears over the remainder of this year and 2014. If they fail to meet these targets then the penalties include higher capital targets.

“The onus is therefore on management to swiftly demonstrate conclusion of sustainable work-out solutions over coming months,” said Mr Callaghan.

He expects AIB to return to modest profitability in 2014, although its viability in the medium term hinges on a restructuring of its balance sheet, including a conversion of the €3.5bn in the Government’s preference shares into equity.

“AIB may also requireexternal assistance to address the scale of its c. €4bn of Deferred Tax Assets,” he added.

The Government has €1.8bn of preference shares in Bank of Ireland, which if they are not redeemed by Mar 31 face a 25% step up to €2.25bn. It is unclear what the regulatory treatment of these shares will be if they are transferred to private ownership, but it is likely to put pressure on Bank of Ireland’s core tier one equity capital.

The bank will likely want to replace the preference shares with debt instruments in order not to dilute existing equity, but the most likely scenario is that there will be a hybrid of debt and equity, said Mr Callaghan.

Davy Stockbroker analyst, Emer Lang, completed an Irish financials site visit on Wednesday, along with representatives from the Central Bank, Department of Finance, Nama, NTMA, the IMF and KPMG. The themes that arose included the “extremely high levels of non-performing loans; the mortgage arrears resolution challenge; the imperative of restoring the banks to profitability and the balance sheet assessment, which is already under way.”

The next six to nine months will determine how successful the banks are at tackling mortgage arrears against the Central Bank targets. The banks attributed both demand and supply issues to the contraction in lending. “However, the two large banks reported that pipelines are generally improving.”

The results of the balance sheet assessments will not be disclosed, except in the event that it resulted in a direct charge to the banks’ provisioning.