dismissals, criticisms, compensation … and tariffs

By the end of 2020, it was clear that Ulster Bank’s days in the Republic were numbered as its UK parent company, NatWest Group, was in the throes of a strategic review of the unit. Not many people knew, however, that the other overseas retail bank in the market, KBC Group, was also rethinking.

By mid-April, both had confirmed they were leaving the Irish market, where industry profits have been depressed for years. There are many reasons for this: an ongoing ultra-low interest rate environment, high fixed costs, moderate credit demand and the relatively high levels of capital Irish banks are required to hold in reserve against mortgages due to the same crisis.

However, as the remaining banks prepare to take over most of the loan portfolios from existing lenders, the Iseq Financials Index – dominated by AIB, Bank of Ireland and Permanent TSB (PTSB) – rose 40% over the course of the year. by 2021, rebound from a drop of nearly 60 percent in the previous three years.

While consumer advocates fear that the ongoing consolidation of the banking market will lead to less competition among traditional banks, leading to higher interest rates and other fees, stock investors are betting the Ulster pullout Bank and KBC will give surviving banks a fighting chance to generate acceptable and sustainable returns after more than a decade of below-par performance.

“There are a number of reasons why Irish bank yields have not reached levels deemed acceptable by the market. Deleveraging is important, ”said Diarmaid Sheridan, analyst at Davy, referring to how banks have dramatically reduced their loan portfolios since the financial crisis by selling risky, non-performing loans (NPLs) to Nama and non-performing loans. foreign funds, while getting rid of other assets following EU state aid restructuring plans.

“As banks have restructured their operations, the combined effect of shrinking balance sheets and low rates leads to scale of operations issues. The exits of Ulster Bank Ireland and KBC Bank Ireland, as well as the sale of performing loan portfolios to the three, offer a good opportunity to reverse this trend. “

Still, no one is getting carried away, with all three stocks currently trading at 45-60% of their intrinsic value, or what’s known as the tangible book value of the bank’s assets. The broader euro area banking sector trades at a discount rate of 70 percent.

Entrenchment

The withdrawal of Ulster Bank and KBC from the market will not begin in earnest until 2022.

As Bank of Ireland prepares to take over 9.2 billion euros in loans from KBC – or 90% of the Irish portfolio of the Belgian lender – and its deposit book of 4.4 billion euros, the Commission of the Competition and Consumer Protection (CCPC) decided in October for a full phase two investigation to see if the deal would significantly reduce competition in the state.

Ulster Bank chief executive Jane Howard recently told the Oireachtas finance committee that she expects most of the € 4.2 billion in business loans she sells to AIB and the € 7.6 billion portfolio that it plans to transfer to PTSB will be transferred in the second half of 2022.

Meanwhile, the industry is bracing for an unprecedented flood with hundreds of thousands of personal and business account holders looking for new homes for their money.

Ulster Bank, with 21.6 billion euros in deposits at the end of June, is expected to start issuing customers with six months’ notice from February to close their accounts. He told his rivals in early December that 916,000 current and personal deposit accounts and 70,000 business accounts were affected. And this comes at a time when most of the other traditional lenders are holding too much money.

The PTSB is the only one of the three remaining banks that needs additional deposits, as it seeks to finance the purchase of Ulster Bank loans, which will increase the size of its balance sheet by 50%.

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The next 11 months will also be dominated by a review that Finance Minister Paschal Donohoe has asked his department to carry out on the problems facing Ireland’s retail bank – precipitated, in part, by planned Ulster Bank exits. and KBC.

The terms of reference also include plans to map the current retail banking landscape and likely market trends over the next decade; learn from the banking sectors of open economies of similar size; and the longer-term implications of Covid-19 and Brexit.

It will also assess “operational challenges” within the business models of Irish lenders and “structural changes arising from fintech and digital finance, which are disrupting the traditional model,” according to the department.

While the review will examine the issue of the high levels of costly regulatory capital Irish banks must hold against mortgages and other loans due to the crash, this area remains the prerogative of European and Irish regulators.

Bank of America banking analyst Alastair Ryan addressed central bank officials in a virtual presentation at the end of November, after the regulator said it would likely reintroduce the requirement to build capital reserves on rainy days for a possible future economic shock. It had reduced the so-called counter-cyclical capital buffer requirement from 1% to zero at the start of the pandemic in early 2020.

“There is clearly no excuse for you to put this in place,” he said. “Your mortgage measures have been very effective; they are the most restrictive in the western world, SME loans are down, what, 65% in the last 14 years … what you are doing is what you have been doing for years, that is to say put more capital in banks doesn’t matter because it makes you feel better.

Still, central bank officials have offered banks hope that they might approach the peak of regulatory capital requirements, saying they are examining “the interplay between different macroprudential capital buffers and the interplay with other elements of the capital regime, in a holistic manner ”. , with the aim of providing clear direction over the next 12 months.

Industry watchers will also look forward to the 2022 outcome of the Central Bank’s comprehensive review of mortgage restrictions, which were introduced in 2015 to prevent a repeat of the credit bubble that burst in 2008.

Remuneration

While the minister has kept the thorny issue of executive compensation out of the terms of reference of the ministry’s review, he knows all too well that the industry will make proposals to push for an easing of a salary cap of € 500,000 and a bonus ban which remained in place. for banks bailed out since the financial crisis.

A report by the Banking and Payments Federation Ireland (BPFI) released in September said that the current ban on variable pay among domestic banks puts them in a “considerable and growing” position in terms of recruitment and retention compared to d ‘other lenders, IT companies and businesses.

However, the government refused to change regimes for fear of a political backlash.

Retreat

Yet with Mr Donohoe on track to complete the state’s removal from the Bank of Ireland’s share register in 2022, having started selling his remaining 13.9% stake in the lender last July, he it is likely that the bank will use this step to continue its business. for a return of variable salary.

Mr Donohoe also announced just before Christmas that he planned to start selling the state’s 71% stake in AIB within the next six months. Analysts estimate that it will remain between 68 and 69% by the end of the period.

Meanwhile, the planned introduction of laws to make it easier to hold managers in the financial services industry accountable for failures under their watch – under long-awaited legislation expected to make its way through the Oireachtas in 2022. – will also be used to request a relaxation of the remuneration restrictions.

Punishment

The case will be difficult to argue until retaliation arrives for the state’s two largest banking groups for their roles in the mortgage scandal.

The Central Bank’s decision in March to issue Ulster Bank a record fine of 37.8 million euros for its involvement in the industry-wide scandal, brought the total levied to date against the lenders to nearly 82 million euros.

But 2022 will probably see the day of accounts for the two largest credit groups: AIB and its subsidiary EBS; and the Bank of Ireland. AIB has so far set aside 70 million euros to cover probable fines. Bank of Ireland had reserved funds for a monetary penalty in connection with 72 million euros of provisions related to trackers appearing on its balance sheet at the end of June.

Elsewhere, the Central Bank rocked the entire banking sector in early December by fining the Bank of Ireland € 24.5 million for failing to put a system in place for more than a decade. adequate to ensure continuity of service to customers in the event of a serious IT failure. The shortcomings were not fully corrected until 2019.

Laura Wadding, partner at Deloitte Ireland specializing in risk advice, said the fine reflected the increased digitization of banking services in recent times, a stricter enforcement regime and how financial companies should take a proactive approach identification and management of risks.

“IT systems are no longer behind the scenes, they are a key part of how customers interact with their bank and the impact on customers of a system failure can potentially be much more damaging than in the past.” , she said.

Rates

European Central Bank (ECB) President Christine Lagarde has not been so consistent in recent months, repeatedly saying that the prospect of an interest rate hike in 2022 is unlikely, even though d Other major central banks have become more hawkish amid a global spike in inflation in recent months.

With eurozone consumer prices currently rising to more than double the ECB’s 2% target and with many economists believing inflation could turn out to be more rigid than expected, the ECB could be forced to increase rates at some point in the year.

The biggest drag on Irish banks’ profit margins is not the ECB’s zero policy rate, but the negative 0.5% charge on excess deposits they place with the Central Bank.

AIB CFO Donal Galvin said it was time, as the bank released a trading update in November, to share its calculations with analysts on what the rate hike would do for its income line.

A one percentage point increase in all interest rates would increase AIB’s annual net interest income to around € 250 million, based on the current composition of its balance sheet, a- he declared.

“I have a feeling we’ll be discussing this a bit more over the next few quarters,” he said. “I think the history of interest rates for banks and in particular for AIB is going to be an area of ​​keen interest in the future.”


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