Business Irish

Tuesday 17 July 2018

New ECB structures to squeeze bank margins

AIB, Bank of Ireland and Permanent TSB are among banks which face rising borrowing costs. Stock image
AIB, Bank of Ireland and Permanent TSB are among banks which face rising borrowing costs. Stock image
Donal O'Donovan

Donal O'Donovan

Borrowing costs are set to rise for AIB, Bank of Ireland and Permanent TSB, Investec analyst Owen Callan has said in a research note.

All three banks have had to established new group holding companies to meet European Central Bank (ECB) rules aimed at ring-fencing the risky part of banks from ordinary savings.

Bonds issued through the new holding companies "will represent more expensive forms of funding than previously, and so impact adversely on operating margins", Mr Callan said.

It will mean lower margins for banks or more expensive loans for borrowers, he said.

Borrowing costs will be relatively higher because the new holdco debts will be structurally subordinated to both customer deposits and outstanding senior bonds previously issued by the banks.

The bulk of bank funding is through deposits, so the effect should be cushioned.

However, it comes just as bond markets generally move to reprice risk from historic lows.

European bond yields edged higher on Wednesday following a climb by benchmark short-dated US yields to a near-decade high, as investors focused on a confident US Federal Reserve rather than fresh geopolitical concerns.

US bond yields - which signal the direction of borrowing costs - initially fell across maturities after US President Donald Trump's announcement on Tuesday that the country would withdraw from the international nuclear deal with Iran.

But that drop was short-lived as expectations grew that the Fed would raise interest rates at least three more times this year, pushing US bond yields to fresh highs in early European trade on Wednesday.

That sell-off dragged eurozone 10-year bond yields higher.

"A confident Powell is putting upward pressure on the short-end of the US yield curve and that is cascading through the entire global bond market complex," said Ciaran O'Hagan, head of euro area rates strategy at Societe Generale in London, referring to new US Federal Reserve chief Jerome Powell.

Yields on two-year US Treasury debt rose by two basis points from the previous session to their highest levels since September 2008, pushing yields on equivalent German debt up by half a basis point to minus 0.575pc.

Bond markets are intertwined, so that any rise in borrowing costs for what are seen as the least risky borrowers - like the US and German Governments - means lenders can charge all other borrowers more too.

In the US, the Fed has already raised interest rates six times since December 2015 when it began withdrawing its extraordinary policy stimulus put in place after the 2008 global financial crisis. Money markets have whittled down the odds of an interest rate hike from the ECB by June 2019 to 75pc.

The ECB is due to start withdrawing other supports from the bond market from September.

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