Central Bank stress tests cast a very cold eye over potential losses on mortgages

IRISH LIFE & Permanent had managed to steer clear of State ownership and avoid a Government capital handout through four Irish banking bailouts since the financial crisis erupted in 2008.

The decision of Permanent TSB to stay out of development lending meant the company avoided the severe losses that tipped the other five Irish lenders into part or full ownership by the State.

For the losses that it did incur as the largest mortgage lender during the boom, the company could tap its profitable life and pensions business for loss-absorbing capital. That was until this week.

The next set of Central Bank stress tests are casting a very cold eye over potential losses on residential and buy-to-let mortgages and the funding problems at the banks.

Permanent TSB scores particularly poorly on both tests.

The Central Bank’s prudential capital assessment review, or P-Car test, is expected to show up a capital shortfall of anywhere between €600 million and €1.2 billion at Permanent TSB, given the severity of mortgage losses under worst-case scenarios considered.

Outside consultant BlackRock, which is valuing the bank’s loan books for the Central Bank, is taking a particularly severe view on future mortgages, out to 25 years in the case of some loans.

The consultants are pricing many loans against market values, exacerbating the banks’ problems.

Some 60 per cent of Permanent TSB’s €27 billion Irish mortgages are tracker loans, which follow the European Central Bank base rate.

Most are loss-making, given how the borrowing costs of the Irish banks have risen so sharply out of sync with the European Central Bank rate.

Permanent TSB is also the worst funded Irish bank, with a loans-to-deposits ratio of 200 per cent (€200 on loan for every €100 on deposit), compared with the industry average of 180 per cent. (And this is even after the bank received €3.6 billion in deposits cut from the carcass of Irish Nationwide Building Society.)

The Central Bank’s prudential liquidity assessment review, or P-Lar test, will determine what Permanent TSB must do to reduce that ratio to 122.5 per cent.

Like the other four banks being tested, Irish Life & Permanent must show how it will offload excess loans to reach this ratio.

Permanent TSB’s heavy concentration in Irish mortgages leaves it with less attractive assets to sell – hence, the large capital requirement in this fifth banking bailout, even avoiding rapid fire-sales.

The quantum of cash required means that Irish Life & Permanent has run out of road. This will push a fifth Irish lender into majority Government control.

Bank of Ireland, already 36 per cent State-owned, faces an almost impossible task to avoid a similar fate.

If it fails, as expected, this will lead to the virtual nationalisation of the Irish banking system.

All will be revealed tomorrow afternoon when the test results are announced by the Central Bank.