#EconomyGeeks: FINANCIAL TIMES ► Ireland: does the fire sale start here?

Posted by Joseph Cotterill on Mar 31 18:25.

You’ve already had the stress test results (more on those in a moment), here’s the Irish finance minister’s statement regarding what survives of Ireland’s banking system.

In short: a rump Bank of Ireland, a mashed-together Allied Irish and EBS, and a cleaved Irish Life & Permanent. With the fate of Anglo Irish and Irish Nationwide still unclear.

No burden-sharing for senior bondholders; no replacement at the ECB for emergency loans from the Irish central bank. No succour, in short, for the pain from Irish banks selling assets to shrink their balance sheets. So let’s look at what has to be sold.

From Michael Noonan’s speech, emphasis ours:

Pillar 1 – Bank of Ireland
The first Pillar bank will be designed from Bank of Ireland. Splitting into separately managed non-core and core divisions, the bank will begin to shed €30 billion of assets by 2013. It will become a significantly more domestically focused bank and retain its businesses in Northern Ireland, its Post Office deposit venture in the United Kingdom and limited capital markets businesses.
Although backstopping the Central Bank capital requirements, we will provide the management time to raise additional private capital and limit the State’s need to invest in the banks.

Pillar II – Allied Irish Bank and EBS
We have already announced that the recent bid for the EBS did not represent good value for the State as shareholder. We intend to combine the operations of AIB and the EBS to build a second Pillar bank from the strengths of both institutions. Again, this will be a largely domestically focused bank, retaining its Northern Ireland operations and certain deposit funded operations in the UK.
During the transition, customers should continue to do business with either bank as before and over time the fuller services of AIB will become available to the customers of the EBS who will obviously retain the protection of the state guarantee for their deposits.
The non-core division of the combined entity will see deleveraging of €23 billion of assets by 2013.

Irish Life and Permanent (ILP)
To satisfy the Central Bank’s capital requirements, Irish Life & Permanent must raise very substantial additional equity capital. This will require a significant restructuring of their business and their shareholding, involving in all likelihood a majority stake held by the government. The management of ILP have agreed to produce a detailed capital plan to me shortly.
The basic elements of this plan are already clear and are reflected in their deleveraging plans agreed with the Central Bank. ILP will immediately commence a process to sell its life insurance subsidiary Irish Life Assurance, as well as other non-banking assets such as its life and pensions business which is strong, well capitalised and will continue to operate normally. In line with the other institutions, banking assets will be divided between core and non-core, and €10 billion of non-core assets will be available for sale or run-off to help to reduce the imbalance between assets and deposits.
The sale of valuable insurance and other assets should raise significant capital for the Group. It is the intention of the State to provide the remaining PCAR capital to the group.

Based on the Central Bank’s work, a further €24 billion, including €3 billion of contingency funds, is now required by the banks for capital purposes. This is a significant sum, though it is within the funding envelope available for this purpose from the EU/IMF programme of support. This Government’s view is that there should be no half measures. If it has to be done it will be done without delay.
This is not to say that this burden should fall first on the taxpayer without any mitigation. Actions to significantly reduce the cost to the taxpayer will include providing some element of capital up to €3 billion on a contingent basis – if not required, the capital must be returned to the State.
We will also seek direct contributions to solving the capital issues of the banking system by requiring further significant contributions from other sources including from subordinated debt holders, by the sale of assets to generate capital and where possible by seeking private sector investors.

That ‘other sources’ doesn’t necessarily rule out senior debt, we suppose. Lastly, on Anglo Irish and Irish Nationwide:

Anglo Irish Bank and INBS
Neither Anglo Irish Bank or Irish Nationwide were subject to the stress tests announced today. Consequently, there is no immediate need for additional capital for either institution. It is Government policy to work out these institutions in an orderly manner over time and to minimise further injections of taxpayer capital into either institution. A further assessment of the capital requirements of both institutions will be available in May…

Can’t wait.

Now, regarding these asset sales – they’re the flip-side of a bit of the stress test beyond the capital requirements and the loan loss assumptions calculated independently by BlackRock. This is the Deleveraging Review, which requires banks to achieve a 122.5 per cent loans-to-deposits ratio by 2013 (from 180 per cent currently) also via asset sales.

Overall then, you have to read the above spin-offs of non-core assets outlined in the minister’s speech with this chart from the stress test:

€72bn over three years. And not a fire sale? The central bank reckons so:

Banks will implement deleveraging plans agreed with the Central Bank in order to transition to smaller balance sheets and a more stable funding base. They will do this through the separation of assets into „core‟ and „non-core‟ divisions, and the gradual run-off and disposal, avoiding a fire-sale, of their non-core assets. There is no requirement on the State or the banks to aggressively achieve deleveraging to the point of creating fire-sale situations, as this would result in a significant unnecessary transfer of value to third parties, funded via State capital injections.
The deleveraging of the banking system will give rise to losses which will create a need for further capital. These amounts are included in the overall capital requirement figures…
The total additional capital requirement (gross) for the four banks is €24.0bn. This is well within the €35bn provided for this purpose in the [EU/IMF] Programme agreement. There are measures to reduce the cost to the Government including planned asset sales and Liability Management Exercises (“LME”). These are dealt with separately in the Minister‟s statement today…

Deleveraging with asset sales -> more capital required -> more asset sales to finance this capital. Because the state cannot or will not bear the cost. Neither will senior bondholders.

And a fire sale will be avoided? Really?

This is only one aspect of the stress tests and Irish government decisions we’ve noted today. It looks like there are plenty more, once we pick our way through the loan loss assumptions – and if there’s anything interesting you see, please put it below in comments.