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Dan White: Mortgage arrears could force BoI into State ownership

BANK of Ireland is still refusing to face up to the true extent of the problems lurking in its €28bn Irish mortgage book, writing off just €418m in 2012. Facing up to the full extent of the problem could finally force Ireland's oldest bank into majority State ownership.

Last year's provisions bring the total amount of write-off on Bank of Ireland's Irish mortgage book to €1.43bn since March 2008. While this might appear to be a large number, in absolute terms it still represents just 5 per cent of the total Irish mortgage book.

In its defence, Bank of Ireland points out that its arrears levels are much lower than those for the banking sector as a whole.

On Thursday, just three days after Bank of Ireland released its 2012 results, the Central Bank published its latest mortgage arrears statistics. These showed that, at the end of December 2012, 11.5 per cent of all owner-occupied mortgages and 18.9 per cent of buy-to-let mortgages were more than 90 days in arrears.

By comparison, the past-90-days arrears levels at Bank of Ireland on the same date were 7.1 per cent and 13.9 per cent respectively.

Quite clearly, when it comes to mortgage arrears, Bank of Ireland is doing considerably better at managing the problem than most of its peers, with its past-90-days arrears running at 61 per cent of the banking sector average for owner-occupied mortgages and at 73 per cent for buy-to-lets.

That's the good news. The bad news is that Bank of Ireland still has a very large number of problem mortgages on its books.

Just how bad can be deduced from the detailed arrears data contained in the notes accompanying the results.

These show that €2.04bn of owner-occupied mortgages, 10 per cent of the total by value, were more than 90 days in arrears by the end of 2012, while €1.56bn of buy-to-lets, 24 per cent of the total, were more than three months behind on their repayments on the same date.

Even on the most optimistic interpretation, this means that 13 per cent of Bank of Ireland's total mortgage book by value was more than 90 days in arrears at the end of last year.

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In fact, the underlying problem is almost certainly even worse than these figures suggest.

In common, it must be said, with most of its competitors, Bank of Ireland threw caution to the winds during the final manic phase of the housing bubble during the mid-Noughties. This is reflected in the composition of its mortgage book and its arrears profile.

A massive €19bn, over two-thirds, of Bank of Ireland's Irish mortgage book was advanced during the five years from 2004 to 2008. With entirely predictable results. More than €2.7bn of these late-cycle loans, 14 per cent of the total, are now more than 90 days in arrears.

And there is almost certainly even worse to come. Bank of Ireland calculates that 55 per cent or €15.5bn of its mortgage book was in negative equity at the end of 2012, with a massive 69 per cent of its buy-to-let mortgages underwater.

Further complicating matters is that while "only" 9 per cent of owner-occupier mortgages were interest-only, a massive 52 per cent of buy-to-let mortgages were interest-only at the end of 2012.

This is almost certainly storing up even more problems for the future.

Like most of its competitors, Bank of Ireland is also locked into large numbers of loss-making tracker mortgages, where the interest rate paid by the customer is tied to official ECB rates.

As Irish interest rates decoupled from European Central Bank rates long ago, this means that Bank of Ireland is losing its shirt on many of its compliant mortgages.

According to Bank of Ireland, 56 per cent, or €11.5bn, of its owner-occupier mortgages are trackers.

Unfortunately, it doesn't supply the same information for its buy-to-let mortgages but it seems reasonable to assume that at least the same proportion of these loans, almost certainly a far higher percentage, are also trackers.

This means that Bank of Ireland has at least €15bn – in reality probably much closer to €20bn – of trackers on its books, every one of which is losing money.

Arrears, trackers, negative equity, interest-only and late-cycle loans. No matter how you look at it, it's a toxic brew. Certainly there is no way that the €1.43bn that Bank of Ireland has provided against mortgage losses over the past five years will prove to be even remotely sufficient to meet the eventual cost.

So why is Bank of Ireland apparently so reluctant to face up to the true condition of its mortgage book? While it could be that bankers are incurable optimists, I'm not so sure.

Bank of Ireland was the only one of the Irish-owned banks to avoid effective nationalisation.

However, the State retains a 15 per cent shareholding and €1.8bn of preference shares, which under certain circumstances can be converted into ordinary shares.

'Bank of Ireland is also locked into large numbers of loss-making tracker mortgages'

At the end of 2012, Bank of Ireland's total equity stood at €8.6bn. Even a 20 per cent write-down in its mortgage book, including a general 10 per cent provision against trackers, would wipe two-thirds of the remaining equity, making a fresh recapitalisation inevitable. Unless Bank of Ireland's North American investors were prepared to pony up, that would leave only the State.

If that happens, then Bank of Ireland, which managed to avoid State ownership during the 2009-11 crisis, might not be so lucky next time around.

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