THE ARRIVAL of tracker mortgages – introduced by Bank of Scotland (Ireland) under Mark Duffy in 2001 and followed Pied Piper-like by other Irish lenders – was hailed at the time as a much-needed shake-up for competition in the mortgage market.
However, turbo-charged lending on tracker mortgages over the subsequent seven years, particularly after 2004, fuelled the boom in credit and property and squeezed bank income to the lowest levels across Europe.
While they may have been a good idea at the time for banks and borrowers, trackers no longer do what they once did – they track the European Central Bank base rate but the cost of bank funding has long since gone off these rails. The soaring cost of deposits has meant lenders have raised interest rates for standard variable customers to levels that cross-subsidise those on tracker rates that are as low as 2 per cent on average, levels that can only change if Frankfurt shifts rates. If only banks had stuck with their tired old banking products they might have fared better.
The authorities are working with the troika of bailout lenders on a solution that, if agreement is reached, will not just reduce the cost of Anglo Irish Bank and Irish Nationwide but cleanse a stain on the books of the banks.
The problem is not a small one. Trackers account for 60 per cent of Permanent TSB’s €26 billion Irish residential mortgages, 54 per cent of AIB’s €27 billion book, 23 per cent of the €16 billion book at its subsidiary EBS, and 62 per cent of Bank of Ireland’s €28 billion book. All told, that works out at €51 billion, or about 52 per cent of residential mortgages at the four Government-guaranteed banks. A higher proportion of buy-to-let mortgages, about 70 per cent, are on tracker rates.
Trackers were written at margins above the ECB rate. At best, they are breaking even now; in most cases they are heavily loss-making even though most of them are performing. And the problem isn’t going away soon – the average life of these loans is far longer than the toxic property loans written by the commercial departments of the banks.
So, if the dysfunctional Irish banks are to have any future in attracting investors and funders and standing on their own, the tracker problem must be sorted.
The Government and the troika are deep in “technical” discussions – technical because the political talks come later – on a paper that will deal with the heavy cost of the Anglo Irish Bank/Irish Nationwide bailout and the tracker problem. Bank of Ireland’s privileged status as the only Irish bank to avoid Government control seems to be keeping it out of a solution but it’s important to stress that all options are still being looked at.
So how do you solve a problem like Anglo/INBS and the trackers in the same restructuring? Given that the aim is to push out the €31 billion repayments on the promissory notes on a low rate for longer, trackers could be used in a game of swaps around State-controlled banks. Conveniently, (excluding Bank of Ireland), trackers at AIB and Permanent TSB total €34 billion – not far off the value of the promissory notes the Government wants rid of.
One solution could be to agree with Europe a long-term government bond, say for 30 years, as collateral for a cheap loan to the banks from EU bailout funds. The promissory notes could be cancelled, the €34 billion of trackers could be moved into Irish Bank Resolution Corporation (IBRC) , which is already winding down Anglo and Irish Nationwide, and the new bond used to fund all this. To avoid any further nasty hits to capital reserves on the transfer of the loans, the trackers could be valued at the Central Bank’s stress test levels from last year.
The transfers could be structured as “capital neutral” on the various participants given that the State owns most or all of IBRC, AIB and Permanent TSB. This is why including Bank of Ireland, in which the State is a 15 per cent shareholder, could be tricky.
Given the state of the banks, it is bizarre that the EU Commission must weigh in with its view on the effect of such a solution on competition between AIB and Bank of Ireland under State aid rules, but it must.
The pluses are obvious – the costs associated with Anglo and Irish Nationwide are cut, a whole tranche of loss-making loans are removed from AIB and Permanent TSB and loan-to-deposits levels are back to targeted normal levels.
The minuses are complicated. Cutting ties between mortgages and associated current accounts at AIB and Permanent TSB could be problematic, and trying to shoe-horn three systems to manage mortgages (including EBS’s) into one even more so.
It could also mean that IBRC will be around far longer than its 10-year life expectancy and that its role will change. It won’t just be pushing for loans to be repaid but waiting for them to be repaid. Ironically, the shell that was Anglo Irish Bank and earmarked for the scrapheap could become the home to a third of the mortgages in the State. Now that is quite a shake-up in the market.
