Thursday 23 November 2017

Analysts cry foul over how Irish banks were measured in Europe's new stress tests

The Bank of Ireland Global Finances trading floor in Dublin. It and AIB were the two banks measured in the stress tests
The Bank of Ireland Global Finances trading floor in Dublin. It and AIB were the two banks measured in the stress tests
Colm Kelpie

Colm Kelpie

Shares in Bank of Ireland tumbled 6.5pc yesterday in the first day of trading after European stress tests showed it and AIB remained vulnerable to a future financial shock.

The lender closed at 17 cents. AIB rose over 12pc, but movements in the latter's share price are not a reliable barometer given the fact the bank is almost entirely state-owned.

Analysts were more upbeat on the health of the banks, saying the tests were harsh on Ireland and skewed against our banks.

European-wide stress tests, released on Friday, gauged how banks would survive a recession and revealed that both AIB and Bank of Ireland fared poorly.

The tests measured lenders' ability to weather a severe recession over three years, and AIB was the second-worst performer in the so-called adverse scenario.

Bank of Ireland, the only other Irish bank tested, fared better but was the fourth-weakest out of 51 banks tested.

Goodbody Stockbrokers analyst Eamonn Hughes said that while the results were disappointing, Ireland had been "dealt a poor hand".

"In our view, the stress test methodology has been harsh on Ireland," Mr Hughes said,

He took issue in particular with the point in time nature of the exercise which dated back to the end of last year.

Mr Hughes said that in Bank of Ireland's and AIB's cases, bad loans had fallen 18pc and 14pc respectively in the first half of this year, improving the balance sheets.

"Most importantly, we estimate the adverse scenario loan default rate is on a par, or actually exceeds, the peak NPL level recorded in Ireland in 2013 after the economic meltdown which required a Troika-led bailout in 2010-13. That strikes us as particularly harsh," he added.

Philip O'Sullivan, economist with specialist bank Investec, said the "inputs for the exercise had the Irish banks at a disadvantage to their peers from the start. The use of static end-2015 balance sheets provided no credit for the continuing progress the Irish banks are making in terms of working through their troubled loans and generating organic capital," he said. Davy's Diarmaid Sheridan said the tests contained a lot of technical assumptions that "penalised the Irish banking system".

"In terms of ongoing recovery, we saw all of the banks have reported strong NPL reductions and organic capital generation was also strong in the banking system so those are key items that this type of stress test will have effectively ignored," he said.

Bank of Ireland's share price has been under pressure this year, but recorded a sharp fall in particular after the Brexit vote.

The banks and the Department of Finance said the tests did not reflect the current strength of the banks, as they were based on an end-of-2015 position.

The stress tests looked at the capital that banks would be left with after a crash using a standard measure called core equity tier 1 (CET1). Under a severe scenario, AIB would be left with CET1 of 4.3, below the 5.5 level analysts see as adequate.

Bank of Ireland's CET1 in a stress scenario of 6.1 is also well below the average.

Bank of Ireland and AIB both dismissed the tests as a snapshot in time, as it reflected the position at the end of last year.

AIB said the tests did not reflect "current or future improved financial performance".

Bank of Ireland said its capital position was strong and it continued to generate capital.

Irish Independent

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