Irish balance sheet healing set to continue
Ø Term market funding and capital redemptions of €20bn over next three years: Despite further anticipated balance sheet contraction, we still expect the PCAR institutions (AIB, BoI, ptsb) to replace the majority of future redemptions in order to de-risk liquidity profiles and to improve Net Stable Funding Ratios. The impressive re-engagement with debt markets over the last year bodes well in this regard. There will be a further near-term pick-up in activity in our view as the banks seek to exploit the improved sentiment towards Irish debt and to pre-fund €7bn senior unsecured government guaranteed maturities in 2015. Encouragingly, the improving Irish macro and property backdrop is likely to keep the appetite for issuance strong and support pricing. We also expect the PCAR banks to move to bolster overall capital structures, with LT2 and new CoCo issuance possible over the coming year.
Ø Top-line recovery to be evident in the PCAR banks’ full-year 2013 results: We forecast a sharp rebound in income at year-end, principally reflecting net interest margin (NIM) increases, diminishing ELG fees and further cost take-out. Encouragingly we think that management may finally be in a position to allude to a peak in 90 day+ mortgages arrears. However we expect impairment charges to rise following the CBI’s Q4 Balance Sheet Assessment (AIB – €600m, BoI – €650m), but capital levels are set to remain robust ahead of ECB stress tests.
Ø Legacy issues may hinder AIB equity disposal: While we still forecast a return to profitability in 2014, AIB’s NAMA senior bond exposures (Dec 2013: €16bn) and DTAs (Dec 2013: €4bn) pose structural long-term challenges to its investment case (we forecast residual DTAs of c. €2.5bn post full CRD IV implementation). These capital overhangs may adversely impact the bank’s re-privatisation in our view. We note that AIB’s profitability would be significantly improved if the coupon on the NAMA Senior bonds was reset to the same rate its Spanish counterparts receive from similar Sareb Senior bonds (potentially increasing AIB’s pre-provision profits and capital by c. €400m per annum).
Ø Envisage rerating of BoI debt: Given the concentrated Irish banking market with the pillar banks (AIB, BoI) commanding a duopoly position, we expect improved pricing power in coming years to support net interest margin expansion. This combined with a normalisation in impairment charges will drive strong internal capital generation. As a result we believe BoI’s debt will eventually rerate to trade in line with other national champion retail banks with premium market shares (such as Lloyds Banking Group, Credit Agricole, Banco Espirito Santo and Caixabank). In particular we see value in BoI’s 10% 2022 LT2 which currently yield 6.7% (broadly flat to BoI’s 10% 2016 CoCos despite the lack of trigger conversion). While other distressed European banks arguably face greater difficulties at the time of the ECB’s stress tests, the BoI 10% 2022 trade significantly wider than similar Commerzbank, Erste and Raiffeisen LT2 issues.
Ciaran Callaghan | Merrion Stockbrokers
Senior Credit Analyst
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