The Taoiseach and the minister for finance have been adamant the bank rescue package announced Tuesday morning is not a bail-out, but a guarantee. They make this quibble for good reasons. The state's intervention, although enormous, deals with one problem that had been affecting Irish banks and reportedly threatened to topple the entire financial system early last week. That problem was funding: the banks couldn't raise it.
But as there are reasons for the government's insistence on proper terminology, there are reasons, too, that the Irish banks found themselves in such a desperate situation in the first place. The party line says Irish financial institutions have simply been rattled by the global credit quake, that the banks can't get funding because nobody can.
Yet while failures and bail-outs are occurring in many jurisdictions, nobody else has so far required the desperate measures applied in Ireland. That's because the Irish banks are fundamentally in bad shape. In fact, the reason they were cut off from funding is because they are all facing serious problems in the next two years covered by Brian Lenihan's guarantee – and possibly beyond. The government may have taken care of the liability side of the balance sheet, but the long-term issues are all on the asset side.
So while the government has taken action to address the liquidity crisis, there is nothing in the bail-out to prevent any of the underlying problems which helped cause it from overwhelming one or more of the institutions it is supposedly saving.
Irish Life & Permanent
IL&P will arguably benefit most from the state guarantee as the banking side of the group had come to rely on the credit markets – rather than depositors or shareholders – for 61% of its funding needs. Recent investor concerns about the stock have mostly surrounded the bank's reliance on wholesale funding to keep its business afloat.
Last week the bank told brokers that as a result of the government guarantee it had already received interest in opening new lines of credit from previously closed sources. But that is not the end of chief executive Denis Casey's woes. The banking arm of IL&P, Permanent TSB, lashed out so much money between 2002 and 2007 that loans now stand at roughly 275% of deposits – one of the highest ratios in the developed world. Casey grew the bank's assets at a rate far higher than deposits were coming in, forcing him to raise more money through debt instruments. IL&P has leaned on the European Central Bank's emergency credit line more than any other Irish financial institution.
The government guarantee will address that, but the bank is still woefully short of deposits. Lending growth will have to slow radically, damaging earnings, while Casey rebuilds his balance sheet. Increased losses from its UK buy-to-let lending business could put the whole group under pressure. Capital is robust at the group level, yet Casey has signalled his treasury managers will need to release cash from the insurance side of the business in the coming years – most likely to cover losses from growing arrears.
Irish Nationwide had been the source of much merger and rescue speculation throughout September after credit ratings agencies Fitch and Moody's lowered their ratings on the building society to just one step above speculative grade – the worst among all Irish banks – due to its exposure to risky commercial property lending, especially in London where chief executive Michael Fingleton came late to the builders' party.
The mutual's bond spreads widened enormously in the aftermath, indicating debt investors were pricing in a serious risk of default. Things got so bad bankers in Dublin began to see INBS as a "boil that needed to be lanced", in the words of one executive.
So what's festering at INBS? Its €5bn funding gap may be closing thanks to Brian Lenihan, but Fingleton's small base of clients in the property development sector expose it to potentially catastrophic losses.
The building society bet the bank on developers in the last half-decade, eschewing the middle-class mortgage borrowers who built the institution in the first place. The last official figures for INBS date to December 2007 and Fingleton guards his books jealously, so nobody outside knows the extent of exposures and expected losses. The ratings agencies know more than most, however, and they've delivered their verdict.
Anglo Irish Bank
Anglo Irish Bank, the favourite victim of predatory short-sellers, still has a long way to go to convince the market it's secure. The short-sellers didn't alight on the specialist business bank randomly. They went after Anglo because 80% of its lending book is secured on commercial property – again, the sector with the grimmest outlook.
Executives at the bank insist these loans are soundly cross-collateralised and will get paid back with steady rental income, yet investors simply haven't bought that story. Chief executive David Drumm has continued delivering strong earnings and capital growth, which may see it through bad times.
But the bank has been dogged by market whispers and its share price is routinely savaged. If current rumours are to be believed, it was a flight of corporate deposits from the bank that prompted the government intervention last week. No bank can survive a run. That threat has been doused, but Anglo's biggest clients are twisting in the wind as the economy hits recession.
The largest Irish bank has generally been seen as safer and more stable than high-flyers like Anglo and mortgage specialists like IL&P. Its diverse earnings streams and large deposit bases should theoretically offer a strong foundation for survival.
Yet recent revelations about "watch list" loans to speculative developments – which, in the current climate, are nearly impossible to value accurately, if at all – have unnerved investors and other market observers.
The bank may come to regret boosting its dividend by 10% in a bit of mistimed bravado, because loan losses are certain to mount. Bad mortgage debts are expected to approach 1% of the book, while commercial property charge-offs could easily be double that over the next two years.
Bank of Ireland
After years of mighty growth, BofI's capital buffers are looking a bit threadbare. With loan losses expected to mount at least into 2010, analysts are predicting they will have to raise sums in the hundreds of millions to keep afloat as bad debts eat into cash reserves.
Last month Dresdner Kleinwort flatly stated loan charge-offs would get so steep that BofI would face a rights issue in 2009, depleting value for shareholders.
When the bank surprised the market by halving its dividend in September, it seemed to confirm this view. It's €5bn exposure to speculative land within its €13bn commercial property portfolio could be the source of significant pain in years to come.
This little engine that couldn't has been saddled with high costs and below-average growth for years. This mightn't have been an issue if the building society had stuck to its knitting – savings and consumer lending – but bosses at the mutual went for the brass ring of commercial property and are now in the same boat as everyone else. New chief executive Fergus Murphy gets points for shutting down the commercial lending unit earlier this year. It remains to be seen whether he was just in time or too late.