Irish Mortgage Brokers Blog

The news this morning that the IMF may be the answer to the fiscal woes of Greece is not good news for the Euro (although Ireland individually will benefit from a weaker Euro, any IMF intervention may weaken our reserve currency status).

However, it may ultimately prove to be the ‘least worst’ solution, up until now the EMU nations and the ECB were all in agreement that Europe would solve its own problems, Sarkozy has been particularly vocal on this, but now the Germans seem to be pulling away from the idea of a bailout. Why? One one hand there are elements of the German leadership that feel that the IMF are the only ones with the ‘instruments’ that can fix the problems in Greece.

Greece has issues deeper than the surface problems visible in demonstrations and minor riots, their statistics are not trusted internationally, something which they have gone to great pains to reverse.

When it comes to German feelings on the matter, their conservative national paradigm doesn’t sit well with what they view as Mediterranean profligacy, if it was ever a case that German workers had to give up certain benefits to allow the Greeks to have same, the distaste of the transfer would be more destructive than the problem it solved.

While IMF involvement in Greece may have negative implications for the eurozone, it would definitely be an effective tool for bringing in draconian austerity which the current government there don’t seem to have a handle on, every time good news comes out about Greece it lasts all of two days then it is back into the trenches. Greece is also a member of the IMF which helps, because (for instance) my home state of California is not and therefore the comparisons of EU Country vs California are not necessarily based on the same parameters.

However, we remain optimistic that the Euro will survive, every major currency faced problems in its development, the US Dollar certainly faced its own tests in the early part of the 20th Century, then it was taken over by the Fed, in the 30’s the revaluation to gold was a major development and then there was the final un-pegging in the 70’s, yet the buck survived, I think the Euro will show similar resilience.

Caroline Madden wrote an article in today’s Irish Times ‘Just who is getting the mortgages?‘. It is a question that begs answers, at first it seemed to me like asking ‘Who is John Galt?’ (Rand readers will understand). The stories we hear constantly is that banks are hoarding credit, they will not extend credit to particular groups and when they do the underwriting is so strict that even credit-worthy applications are being turned down.

This article features our feelings on the matter, we believe that some of the banking statistics being thrown around make fore ‘good copy’ (good PR) and very little else, as we are not seeing applications turn from approvals in principle into closed loans, and in many cases, approvals are coming in far below what the applicant is actually looking for.

One element of this is natural, after a credit fuelled boom you often have a collapsing demand, credit after all, is like reaching into the future to realise income from that point and transporting it into the hear and now to spend, so when many people use credit and it goes toward a speculative bubble, a normal result is a fear of credit and an avoidance of borrowing as well as a reduction in the appetite in general for credit.

What is not normal however, is the refusal of banks to play their part in the intermediation process, whereby they take money from savers and give it to others in the form of loans, and that is symptomatic of the credit crisis, banks would rather sit on liabilities than make any effort toward the creation of new assets.

This is an interesting debate on Public Healthcare v.s. Private v.s. Co-Operative healthcare, the most pressing point is that medical costs have outstripped inflation in developed countries, oddly, average cost has increased with greater output, and marginal cost is higher than average cost - which go against the normal rules of economics. The issue therefore must be something else surely?

If you rent a property which is covered by the Residential Tenancies Act 2004 then you must register a tenancy with the PRTB, if you get the registration in within a month it will cost €70, if you are late it is €140. This fee gives the landlord virtually nothing and if you don’t register the PRTB can (in case of any dispute), defend the tenant but not accept any complaints from a landlord.

The fact that this is so one-sided is evidence that there is an anti-landlord undercurrent which is highly prevalent in Ireland goes so far as to be expressed in legislation. Contrary to popular belief, a landlord has very little ability to turf out tenants or behave in a manner which is one sided.

If you don’t register your tenancy you cannot offset mortgage interest against rental income, the laws on offsetting expenses (mortgage interest) for landlords have changed, and now you can only offset 75% of the interest against rental income, if you had this reduced to zero for not registering with the PRTB you could be sitting on a large tax liability.

The PRTB is not what we would call a ‘fair’ system, there are rights heavily in favour of tenants which don’t give ‘fairness’ or ‘a level playing field’ or even ‘relevant recourse’ rather the law has gone to the extreme of providing a brand of protectionism, whereby a person who invests their capital to provide shelter at a cost can be manipulated by the system with little or no recourse to the individual receiving the benefit of the asset. In other words, a landlord can spend an unlimited amount of money on a property, in its upkeep etc. and a tenant can decide not to meet their end of the contract (pay rent on time) and then there are a plethora of mechanisms that come to their defence be they in the right or wrong, and in the end they usually walk away scot-free. So is it any surprise that the by-product of this is landlords putting more punitive measures into lease contracts? Hardly….

The aim of the new pensions framework is to deliver lasting security, equity, clarity and choice to the individual. To a degree we are taking on a system the Australians have used in which providing for your retirement is mandatory.

The aim is also to increase pension coverage, particularly among those who have traditionally had a lower level of uptake, as well as encouraging provision for retirement that is not reliant upon the state alone.

In the USA the 30yr Treasury is often called the ‘long bond’ and it is watched (the yields) very closely as it is the indication on long term rate expectations from within the market. If the NTMA issue 30 year bonds as suggested by today’s Independent it could bring about an important development that we have been advocates of for some time, namely, that of long term fixed rate mortgages.

Banks have a certain level of ‘zero rated funds’, this is money that is not incurring cost in terms of interest payments to the customer, they generally tend to come about in current accounts. Many people keep a certain amount of money in a current account from month to month, when you add all of this together across the institution there is normally a certain foundation or base level of funds constantly there. The zero rated funds are generally where the funding area where fixed rates come from, and the fixed rate mortgage prices are based upon a comparable (normally a sovereign bond).

A bank will look at the coupon on a Government bond (we’ll say its 3.5%) and then decide that if they can put a risk premium on this by lending the money out instead (for a mortgage) that if they can earn 4.5% on that loan then it makes sense to take the risk and lend at that price as they are making 22% more than they would by opting for the bond. This difference is the risk premium, the justification for doing a loan instead of buying a security.

The reason we have a maximum of 10yr fixed rates in Ireland is because that was (until recently) the longest term bond the state issued via the NTMA. However, this has started to change, last July we issued a 15yr bond and now there is talk of a 30 year.

What this means is that for the first time there is a pricing comparable of greater than 10 years, we currently have a 15 year level to benchmark against and soon there could be a 30 year option. The good thing about this in the mortgage market is that it helps to avoid the credit risk to an individual when obtaining finance, people who got cheap mortgages in 2003 saw them get more expensive in the run up to 2008 then come down in price since, that attraction to variable rates is not healthy, it creates bad underwriting as stress tests come in too low during low interest rate environments and too high (this problem was best seen by the people who were forced into 5yr fixed rates at 6%+ during 2008) on the way up.

In the USA the markets least affected by the property crash were those that had predominantly long term fixed rate mortgage holders, those that have been the most catastrophic use ARM (adjustable rate mortgages - the American acronym for variables). If banks were to move toward long term fixed rates it would be a good thing, but short of this, we would be happy to see the possibility of a 20 year or longer fixed rate. People take on debts for 25 years but there is no guaranteed price and that exposes them to many ups and downs along the way.

Indeed, if this were the case perhaps there would be mortgage holders who would be in a pinch because they wouldn’t have gotten the downward advantage of how interest rates have moved, but at the same time, we shouldn’t have a system predicated on being bailed out by cheap money, in fact, cheap money was a large part of the problem that got us here!

Merrion
IRISH LIFE AND PERMANENT FY BROADLY IN LINE
* Profit After Tax (PAT) of -€279m better then our forecasted -€308.
* Divisionally, PAT for banking business -€270m better then our forecasted -€302m and Life APE sales (ex ILIM) also ahead at +€348m vs our forecasted  +€318m.
* loan loss provisions better at €376m vs our forecasted €400m
* Life capital stable
* Alliance disappointing-no surprises given recent results
* Tier 1 at 9.2% better then our forecasted 8.9%

OUTLOOK: 2010 to be broadly similar to 2009.  At first glance
we are likely to leave our forecasts unchanged.

NCB
FY Operating loss -€196m vs -€223m NCBe
FY Impairments €376m vs €433m NCBe
Impairment guidance unchanged at €800-900m to 2011 (NCBe €1.1bn)
Net interest margin 0.83% vs 0.85% NCBe
Loan to deposit ratio 246% vs 271% in 2008
Outlook - Banking business to be broadly similar to 2009 with significant
improvement in life business profitability.
Analyst comment to follow

Davy
ACTUAL      DAVY      CONS
PBT (€m)    -319.0    -389.0    -194.8
EPS (c )         -66        -69.4     -47.0

*Operating profits are better than expected due to lower impairment losses in  the bank but this may be a timing issue; still guiding €800m to €900m losses through the cycle
*APE decline of 32% is better than our 38% forecast; a bit behind market  decline of 38% due to distribution; brokers fared relatively better than  bancassurance/sales forces
*Bank Net Interest Margin in line at 83bps but life margin of 11.4% better
*On outlook expect bank result in 2010 to be similar to 2009 but ’significant’ improvement in life
*No news on Third Force; blaming NAMA delay for lack of progress

There were many innocent parties to the credit fuelled property bubble, they are generally those who didn’t borrow, or who carried no debt, choosing instead to live frugally, and if they used debt they used it wisely. Many of these people are at the polar ends of the age spectrum, very young (who don’t even have access to credit) or much older (who have paid off their mortgages), something we will all need to get used to though is the fact that everybody is going to pay for the mess left behind, this goes farther than NAMA.

The process I am describing is already under way, the very payments system (our financial infrastructure), is going to be used to generate economic rent from the people of Ireland in order to bring in more profit to banks so that they can repair their balance sheets. This price will be paid by the taxpayer outside of the bailout money already being supplied on our behalf. This will be even paid by people who manage to slip through the tax net (often because they earn very low incomes) but who use financial infrastructure.

Financial infrastructure is any electronic payments, our payment system, foreign exchange, ATM’s etc. The fees that banks will start to charge will in essence be like a toll-booth on the financial system for all people who interface with it. Free banking is going to be a thing of the past soon, or it will be heavily restricted to certain terms and conditions such as minimum balances/transactions etc. Two of the bastions of free banking have shut down within the last three weeks (Halifax & Postbank), these offerings were by a newcomer seeking market share (Halifax) and another that had state backing (Postbank which was a JV with Fortis and then BNP Paribas).

The remaining incumbents have no need to extend free banking, there is little reason because as fewer compete based on that premise it doesn’t become the factor that wins business, and as those that had free banking are forced out into the market to choose new banks they will do so for perhaps different reasons than their initial switch to free banks (such as proximity of branches, how good they gauge their online banking to be, availability of credit/overdrafts etc.).

Deposit rates will also come under scrutiny by banks, thus far depositors couldn’t be hit because they were too valuable to the banks as a capital base, this meant Irish banks happily paid over the odds to attract depositors, in fact, two of the best deposit products out there are (oddly) state sponsored, meaning that even our sovereign state is behind the drive to attract deposits with certain providers. However, as competition (in particular international competition that can funnel money out of the country) decreases there will be less of a requirement to satisfy retail depositors [note: institutional depositors have different rates and could be left unaffected], and as NAMA goes through, removing at least some uncertainty from the balance sheet, the decreased loan/deposit ratio will mean the end of the courtship of depositors.

Watch deposit rates drop in relation to their margin relative to the ECB, this trend has begun, it will continue.

Elsewhere margin will increase, on the costing side. In our annual trend forecast we were the first to put a number and time-frame on the line (always a mistake I’m told, either pick a figure or a time-frame but not both!), with an expectation of 100 basis points or 1% being added to the cost of variable rate mortgages in Ireland. While many felt this was ‘impossible’ because we are supporting the banks, today’s news would suggest otherwise. Mortgages will cost more even if the ECB leave rates unchanged in 2010, margins will increase and it is a question of who will move first. My own suspicions are that post NAMA one of the main two will do it, and this will be tightly followed (perhaps lead) by EBS or whatever the new ‘3rd force’ is.

The margin on lending won’t stop at mortgages, in fact, mortgages may be the last bastion to fall (public outcry centres heavily on mortgages), watch for increased margins on overdrafts, personal loans, car loans, credit cards issued by banks etc. This is the second level after infrastructure where rent seeking is easily satisfied.

Regarding credit in general, more forensic underwriting coupled with harsher terms/lower multiples are the order of the day, while there is business out there [this blog would cease if there were NO mortgages!] it is incredibly difficult to place successfully.

It is in the manners mentioned that everybody will pay, at every point in the financial infrastructure a cost will start to occur which is over and above opportunity cost and expense, that ‘rent’ will be one of the primary manners in which banks recoup their profits. There is such a focus on NAMA and not overpaying for the assets that nobody is watching how we will overpay for everything else. Consider yourself warned!

AIB announced today that they will be closed to switcher mortgage business effective immediately. We spoke to Mary Wilson from RTE’s Drivetime on the topic and we stated similar views to what you will read here.

The options open to a bank with limited liquidity are essentially ‘who do we lend to’, in terms of expanding credit or extending credit to where it may have a meaningful economic impact. Sadly (because I have to be honest, as a broker this really sucks for us) that means cutting out certain parts of the market such as switchers.

The rationale is that switchers already have the money, they are merely shopping around for a better price, first time buyers on the other hand, haven’t even gotten the money to buy a home with yet and if you have to choose between the two I think it is fair to say that AIB made the right decision. Their commitment to the state during their recapitalisation was to first time buyers, not refinancing applicants or people trading up.

This will reduce competition, it isn’t good for the market, but one of the hallmarks of 2010 will be a strategic reduction in services/products as well as an increase in the cost of the provision of same. We find ourselves repeating the same message again and again: do something about it now rather than waiting to see if you are affected in the future then feeling hard done by after the fact. People who took that advice in recent months have obtained favourable AIB fixed rates, those that didn’t are now locked out from them.

We got a mention in today’s Indo in the ‘Your Money’ section, the story is about the one year freeze banks
have on repossessions.

The article by John Cradden covers the main issues of the day in the repossessions arena as well as giving some great general advice on ways to protect yourself from potential rate hikes by lenders.