Davy Stockbrokers has raised its share price targets for both AIB and Bank of Ireland as takeover speculation grows among their British peers.

The broker said yesterday that the two large Irish banks had fallen off investors' radar screens recently and have underperformed the European retail bank sector, which has enjoyed a strong start to the year.

But takeover speculation among their British peers, a strong showing from European banks and the continued strength of the Irish economy should help the two big banks to reverse their recent share price underperformance, analysts believe.

"Surprisingly, it [ AIB] is one of the worst-performing European bank over six months," the broker said of AIB, which is due to release full-year results on Wednesday.

Davy noted it was currently trading at a three per cent discount to the average 2006 price / earnings ratio of European retail banks.

As a result, the broker has raised its one-year share price target for AIB to €22.35 from €21.00. It has also increased its target for Bank of Ireland stock to €16.00 from €15.50.

"This implies upside of 15 per cent for AIB and 9 per cent for Bank of Ireland from here," Davy said in a research note.

AIB is expected to report a 12 per cent increase in earnings per share to 142.75 cent when it releases its 2005 results while pretax profit for the year is expected to rise by 20 per cent to €1.7 billion.

Ireland, the UK and capital markets are once again expected to be the main drivers of its performance.

Meanwhile, the share price of both banks should be supported by renewed takeover speculation in the British banking sector, analysts said.

Shares in Northern Rock and Bradford & Bingley hit record highs on Friday amid talk that the two are discussing a merger to create an £8 billion (€11.7 billion) mortgage specialist.

Alliance & Leicester and Lloyds TSB have also been named in recent weeks as potential acquisition targets.

"Takeover speculation has a habit of lingering, so is likely to be supportive for UK bank valuations for another while," Goodbody Stockbrokers said. "This should help the Irish banks by default as it highlights the value of retail franchises."

Analyst Eamonn Hughes also noted that it was only "a matter of time" before such takeover speculation spread to other retail banking markets, such as the Irish one.