Irish Mortgage Brokers Blog

If you go into arrears on your mortgage or you talk to your lender because you believe you are a ‘pre-arrears’ candidate then you will be asked to fill in a ‘Standard Financial Statement‘ or SFS which is part of the Mortgage Arrears Resolution Process (MARP) which started last year.

Engaging with the lender is a key tenet of this and filling in the SFS and liaising with the lender on aspects of it. The information in this is what will be used to negotiate the repayment that you will pay in cases where lifestyle adjustment does not allow you to make the full payment.

We have made a few more bold predictions in our ‘Mortgage Market Trend Outlook 2012′ and reviewed how wrong many of our 2011 forecasts were as well.

Some of the main points thus far are:

1. That mortgage lending bottomed out in 2011.
2. That IBRC may take on some tracker loan portfolios to de-risk state owned banks (as the state already owns these loans entirely anyway).
3. That rates for existing AIB borrowers will have to go up but that for new borrowers rates may come down with changes to how prices are charged depending on risk of the proposed loan.
4. That deposit rates will start to drop.
5. That up to 25,000 mortgages will be deemed ‘unsustainable’ and that the ‘won’t pay’ contingent of arrears cases may be as high as 1 in 5.

We hope you enjoy this report, we in turn hope that we get some of the calls right!

Many thanks,

Irish Mortgage Brokers

There are often calls for stricter regulation, in particular the idea that in the US they arrest people in banks with greater ease/faster (which is in itself not ‘regulation’ it is policing). Anyway, I thought it was worth mentioning that in the US it isn’t a ‘one Regulator fits all’, and that the problems we had in the past through division of regulatory responsibility [splitting Central Bank and Regulator] still exist there.

Below is a graph of how responsibility is divided out in America.

As you can see, the OCC takes care of national banks, then the very popular state & community bank sector is elsewhere. Taking State banks in particular, they either have access to the Federal Reserve or not, if they do they are SMB and the State Authority and Fed are the regulators, if not then they are SNMB and the State Authority and the FDIC are the regulators.

That is why you hear about the FDIC ‘going into banks’ - these are state banks that are at risk. The national banks would be more in the OCC/SEC/Fed sphere of influence. Just an interesting point, because the US still has divided regulation and that is sometimes cited as one of the issues that saw the credit crunch occur without warning.

We touched on this topic over on MyHome.ie last Friday in our weekly blog contribution to their site.

It is important to look at this from a few perspectives

1. Regulation and the role of the Regulator
2. Past decisions by the Regulator
3. Politics and policy

1. Regulation and the role of the Regulator: The idea of regulation is not for price control, rather it is about prudential control. As galling as it seems to everybody, the Financial Regulator is not (nor should they be) empowered to tell banks what prices they can charge. This is sickening given that we have spent €10,000,000,000 this year alone via the NPRF in supporting our banks (€8.8bn to AIB and €1.2bn to Bank of Ireland).

Readers, if you know of other jurisdictions where regulators set prices please let us know! The idea of a Regulator is that you pay for them in return you get the avoidance of systemic risk, that is the fundamental reason for their existence and for bearing the cost of having them. The same way that we pay for police in order to have a safer society where there is consequence of actions.

That our regulator has failed and was unfit for purpose is a given, however, placing new powers in them that can force banks to charge certain prices is utilitarian - where the end justifies the means - rather than fair and prudent. If we are to sell our banks they must be profitable, higher rates are one route to that (the others are dropping deposit rates and firing staff).

No investor will want to buy an Irish bank if they cannot control their own pricing, even if pricing is controlled and certain promises given or undertaken not to meddle in the future, the first time you do so it destroys your credibility. And that is where Government erred. They thought that the warning of a stern telling off would make banks change their ways.

It failed, leaving the Taoiseach with egg on his face and the banks with a reputation as bad as ever, while the ball is now in the Regulators hands as they were asked to ‘let the Government know if they need extra powers’.

[Irish Times] “Mr Elderfield has previously stated that his powers of intervention are limited when it comes to forcing the banks to pass on mortgage rate cuts. The Government’s legal advice is that the roles of the regulator and of the Central Bank are independent and the Government cannot direct him to take action.

A source said it has instead “invited” him to consider the outcome of the meeting and, if necessary, make a request to Government for additional powers.

Mr Gilmore denied the Government was powerless in the matter. “No, this has some way to run yet . . . we will take further action if necessary,” he said.”

2. Past decisions by the Regulator: It is interesting to note that the argument about rate setting has already been raised with the Regulator, only it didn’t make headlines the last time. The complaint was via the Professional Insurance Brokers Association and the basics were that ‘dual pricing’ (where prices vary according to distribution channel) was wrong and should be prevented.

The regulator said and did nothing about this, their return comment was that ‘The Regulator has no input into pricing by banks’. So if that precedent is anything to go by then they will not intervene this time either. And that is the key issue- Kenny has passed the ball to the Regulator and now they will be the ones to be made to look bad by appearing impotent. Or worse yet they will seek powers that will make the financial services vista even worse in Ireland.

If the Regulator does get involved in pricing issues it will open a larger can of worms than presently expected, next of all people will dispute their TVR’s based on LTV’s, brokers can bemoan dual pricing etc. etc. It is a downward vortex when you make a Regulator responsible for pricing.

3. Politics and Policy: It is not disputed that people are unhappy, upset and morally outraged at banks getting a cut in cost and not passing it on. However, this is primarily perceived rather than real, because banks are paying more for money than they have existing loans out at (for the most part, and largely due to the 400,000 tracker loans out there).

The question we are asking though is ‘what part of politics requires price intervention?’. The natural byline is ‘well we had bank intervention?’, that that is true (we made a mistake in how we did it, a big one), but mistake ‘A’ is not a justification or foundation for Mistake B if you operate on a rational case by case basis. Furthermore, the likes of AIB who are ‘the bad guys’ are still more than 2% cheaper than PTsb who did pass the rate cut on! So should politicians risk any political collateral they have on diving into this?

Why instead are they not fighting the most expensive providers and asking them to come in line with more competitive banks, this ‘pass the rate cut’ is all about the appearance of power, and the flexing of muscle rather than about genuine leadership and policy, sadly it would seem that our leaders are willing to spend considerable equity in optics when the results are unlikely to be forthcoming.

Perhaps the most pertinent question is ‘what are they hoping to achieve?’.

In this piece by Stephen Murphy of TV3 we spoke about the issue of Regulators enforcing pricing and the fact that it is not a common practice.

We were happy to comment on the Keane report in this news piece by Martina Fitzgerald in RTE

David McWilliams hit an interesting point in today’s piece in the Independent about having ‘too much regulation’, and how it may repel new banks from coming here.

in late 2009 I was picked as part of a team that approached PostBank with a view to turning it into an SME business bank - our proposal never even made it as far as board meetings because they were determined to close down rather than continue, we found the whole process perverse at best.

Instead the same investor group will be setting up in the UK, meaning SME’s in Ireland lose out on funding.

It isn’t that new banks don’t want to come here, it is that they are routinely put off from doing so via the Central Bank and the way in which we grant banking licences in this country.

The other regulatory issue is Basel III.

Asking a bank during a time like this to hold more capital makes sense from a risk perspective, but from every other angle it is a noose.

Banks are being asked to deleverage (have fewer loans versus deposits), market forces are making them pay more for deposits than is healthy, they have huge tracker mortgage books that even when they perform create a loss and at the same time we want them to lend.

Simply put, these are not compatible objectives.

Banks HAVE to become zombies in order to continue because it is only with huge liquidity & capital injections at low prices that they could hope to work normally again - and we have already spent all of the money we have on saving them; so their alternative is to grind along trying to make whatever money they can and in a very very long time they will eventually be breaking even (think Japan)

That is the true tragedy of the crisis, if we had let Anglo close (I argued for this here) and only tried to save a few good banks (even though AIB is a banger it is still the owner of half of the payments system that the likes of EBS sit on top of) then we could have had a chance - it would have also required going right down the order of liabilities as follows:

Sharholders - wiped out
Preference Shares - wiped out
Mezz & SubOrd - wiped out
Senior bonds - turned into new equity
Depositors - saved (in order to maintain confidence)

Then we could have given 25bn in low cost money to the banks to make them healthy. Naturally hindsight is 20:20, we are never so prepared for anythin we are for yesterday!

But the new point is clear - regulation in itself is actually a risk, and a systemic one. Regulatory Risk will be a common word in banking vernacular of the future.

The entire justification of regulation and the bearing of its cost on the financial system (which ultimately gets built into consumer prices) is the avoidance of the systemic risk it is meant to mitigate. It didn’t and it won’t in the future so why is more of it now the solution?

Mainly because it sounds good…

If you look at the dynamic of the crisis to date you see the following flow (broadly but not exactly)

1. Sub-prime mortgages in the USA started to go under
2. Interbank lending froze as banks liabilities were unknown & collateral was of unknown quality
3. Interbank rates shot up
4. The crisis was not contained, culminating in the fall of Lehman which triggered a series of world events
the most substantial aspect of which was a loss in confidence.
5. Markets fell rates were dropped to record lows in the EU, USA and Britain.
6. Recovery began with several bailouts in the majority of nations affected.

and then….

7. This is critical - bank and private debt effectively became public debt, in Ireland’s example this was via our banks, in other countries it was in the same manner or via quantitative easing. Across Europe the ECB was a key facilitator of liquidity.

The debt has now, in many countries become a public debt issue, in Europe specifically it is a Sovereign debt issue, the like of which the US is not immune to having been downgraded by Standard & Poors rating agency.

This means that there is only one fall-back left… namely Central Banks.

We are at a cross roads in which about four outcomes are available

1. Default
2. Inflate (default via the back-door)
3. Extreme austerity - which hurts the poor/middle class the most
4. Grow your way out

In Ireland the fourth option is not available as it would mean getting growth above the rate of interest we pay on debt (because otherwise the trajectory of debt does not change). While we may run a current account surplus the issue here is of a Fiscal deficit that is still weighing down on the country.

The second option is unavailable because we don’t control our currency as do any of the PIIGS.

Austerity in the absence of growth has a negative growth affect on a nation, this may or may not be in our future - while it doesn’t make sense, it is also not an option that is or isn’t within our control so it may be the road we find ourselves on; it may make our Debt/GDP ratio worse, but it may also solve our debt/revenue ratio which could in time service the former.

While we often look at the macro-picture, it is worth considering the micro. Households are the ultimate economic unit and if we examine total private sector debt over private sector income we can get a picture of the ability of the private sector to endure…

If total private sector credit is c. €335Bn and there are about 2m people in the work force earning €35,000 per year then your average person is leveraged almost 4.8 times. Using mortgage criteria - you would be hard pressed to get a loan. Then strip out the unemployed and the situation looks worse.

The clean-up is only part of the greater ongoing issue, now the developed world will have to increase living standards at a time when growth prospects are low and governments are looking to cut deficits and spending.

There is a book called ‘great waves’ by John Fisher Hackett and points out long super cycles, normally inflation is followed by deflation then price stability, if history is to repeat itself we may be looking at a 20yr run of general deflation leading to price stability.

The ‘muddle through’ solutions that will be the likely political outcome, where definitive solution after definitive solution fail to work fully will be the order of the day unless we get the ‘big bang’ solution.

What?

It can’t just be Eurobonds because Europe is one of several key world players that are interlocked with everybody else, it would have to be Europe, the USA, Japan, China, Australia, Britain and Canada and c. 20+ other countries with strong reserve positions.

The USA is the engine of the world, while that may change in the future, it is the case in the here and now - and on a Gross debt basis if you factor in all state and local government debt the US is over 100% debt to GDP. Like all debt this must be balanced against the borrowers ability to service the debt.

Thus it is our belief that only a massive multi-lateral approach by several central banks might work - this is the ‘big bang’ we mentioned earlier. This would involve a multi-trillion swap line with all participants bailing in (lead by BIS/IMF with everybody else taking part - Fed&Treasury/BOE/ECB/BOJ etc.)

In a nutshell, there is too much debt in the world, the only viable players left are central banks, and unless we are going to explore options 1 & 3 listed above (or perhaps worse option 2?) then the massive wall of funding is the only way to do it, stop the panic once and for all, put out every potential fire by flooding the entire land.

Or we can just sit back and watch?

The original Consumer Protection Code was brought out in 2006 and it was a welcome augmentation to the Regulatory environment, since the financial crisis began we are increasingly hearing calls for ‘more regulation’.

Naturally, good regulation is of benefit to both industry and consumers alike, perhaps industry is actually the greater beneficiary because faith in the financial system allows funds to flow freely and in turn financial firms can make profits with greater ease albeit at lower margins (increased competition tends to go hand in hand with that environment).

However, Regulation that is there to hog-tie or ‘get back’ at either beneficiary of regulation is flawed, so something that hammers banks or consumers is ultimately not an achievement but a regression, and for that reason I can’t help but feel sceptical about the new Consumer Protection Code which will come about from the briefings laid out in consultation paper 47 (recently closed).

Where are the key areas that the failure arose?

Bank advantages from within the payments system: I tried to raise this point when speaking to Ian Guider of Breakfast Business on Newstalk 106 today, the point (and I don’t know if I made it clearly) is that banks have a natural ability to sit on the payments system and because of this they have an asymmetric information advantage over the client who only knows about their own finances. They use your information as a sales tool before you even know it.

By knowing what goes in and out of your account the bank can make propositions that are based upon certain outcomes in advance of the proposition, the issue with the majority of financial complaints doesn’t occur after the fact, it occurs at origination.

Put simply, if I always tend to have €500 in my account then the bank can assume that this money is there for them to approach me about, armed (generally) with a proposal of what I could do with that €500. The origination is via an approach rather than a client need being expressed. It is absolutely wrong and one of the biggest oversights being made, the Regulator is coming at this from the wrong angle.

Simple analogy: what is better for a person, to send them into a room of wild dogs with a suit of armour on, or to send them into a room with no dogs? I err on the latter. If banks are allowed to target clients via information they hold from within the payments system then it can easily result in people ending up with investments they would otherwise have never bought.

Vulnerable Consumers: Another area that is being put forward in Chapter 13 of the CPC47 paper. A person is ‘vulnerable’ if they:

1. Have a low level of educational attainment
2. Have a low income
3. Have a a high level of indebtedness
4. Have a poor credit history
5. Do not have English as a first language
6. Are suffering from a long term illness or disability or episodic illness
7. Have a mental capacity to make a decision which is diminished
8. Were recently bereaved
9. Have a substantial sum to invest who have little or no investment experience
10. Are near, or over the statutory retirement age, are retired from their occupation or are retiring soon

To a right thinking person you would naturally say ‘that all seems reasonable?’, and it does, but the underlying issue is that it equally infers a ‘lesser duty of care to non-vulnerable consumers’, some consumers are ‘more equal’ than others, or ‘more worthy of a duty of care’, that is patent bu11$h1t, every person deserves the same duty of care.

And let us not forget that a ‘Consumer’ is any of the following:
a) a natural person acting outside their business, trade or profession;
b) a person or group of persons, but not an incorporated body with an annual turnover in excess of €3 million (for the avoidance of doubt a group of persons included partnerships and other unincorporated bodies such as clubs, charities and trusts, not consisting entirely of bodies corporate);
c) incorporated bodies having an annual turnover of €3 million or less in the previous financial year (provided that such body shall not be a member of a group of companies having a combined turnover greater than the said €3 million); or
d) a member of a credit union;

As an operations and compliance person this strikes me as being singularly impossible to police, leaving companies open to punishment on too many fronts if investments don’t perform, effectively creating a ‘client put’ whereby if they get the result they want it’s o.k. but if they don’t then they can blame the finance company.

How are you to approach this? Ask a person how smart they are? Give them an IQ test? Some of the most intelligent people I know are socially inept and would appear to fit some of that criteria, so what combination is required or does any one piece of it therefore mean it all applies?

This does get onto the point  of origination but again, how does the contact come about? In large part it is via the payments system, whereby a ‘vulnerable consumer’ is approached rather than where they go out to seek advice themselves.

Calling Times: The old rules were that a company could call their clients from 9a.m. to 9p.m. from Monday to Saturday, the new proposal is 9-7pm on the same days. This should probably be 9-8 Mon-Fri and 10-4 Saturday. Allowing some middle ground for both clients and institutions to deal with each other at times that are mutually suitable.

Stopping banks from contacting clients, in particular where arrears exist is a risky proposition, it means that an agent of the bank acting in good faith for the consumer and to their benefit in the arrears process (as set out under the MARP in the CCMA) cannot call the person. Focusing only on one side of the interaction misses this point.

Certified Persons: The code still doesn’t apply to Certified Persons, those are people who are (in the main) qualified Accountants and Solicitors. They can give the same advice that a regulated person can, but if there is a problem there is no regulatory backdrop or protection, they only answer to their own professional bodies, this is a shocking oversight and I would go so far as to say it is disgraceful of any Regulator seeking professional respect, if you can’t enforce rules in the very area you are empowered to do so in then it is emasculation of power you are meant to have.

In conclusion, the Consumer Protection Code is important, and both industry and consumers will agree on this, in the main the suggestions are good, we are in agreement with most of it. However, the oversight in the areas of using the payments system as a sales tool, the inability to regulate certified persons and the duality being put forward by describing some people as ‘vulnerable’ and others who are therefore ‘not vulnerable’ all need to be revisited.

bank run as defined by Barron’s dictionary of banking terminology as follows: ‘A series of unexpected cash withdrawals caused by a sudden decline of depositor confidence or the fear that a bank will be closed by the chartering agency. Today the ’silent run’ is much more prevalent than bank runs in the past where customers lined up in front of the tellers window and demanded their cash. Today depositors simply transfer interest rate sensitive funds - called ‘hot money’ to other institutions, also called ‘a run on the bank’.

Several things have been happening in Ireland that feed into this, firstly is that some banks are leaving the country, that partly helps to make the €40bn that left in December make sense (the figure for all of 2010 is about €110bn). Then there are confidence issues with downgrades and the like.

One of the most common personal finance questions I get is about deposits being safe in the bank here, and on sums below €100,000 I hand on heart believe that to be the case.

Efforts to save banks don’t always work, but they are often more successful than efforts to save yourself -if you look at Argentina in the start of the last decade the system was falling apart, Argentinians, desperate to put their cash somewhere safe moved all of their money into Uruguay the so called ‘Switzerland of South America’.

The Uruguayans fearing contagion equally took out all of their money and again, ATM’s stopped working, everybody lost money, Argentinians looking for a safe haven having taken the majority of the damage, a friend in PWC there told me that in effect, Argentinians ensured that fewer Uruguayans took ‘the hit’. Even today, nearly a decade later there is a fundamental mistrust of banks in both of those countries.

In fact, Banc do Brasil in the heart of Montevideo still lies empty as testament to this period. When GMAC fell apart in the US people with more than $100,000 were left wondering for months whether they would get any of the balance over that amount back, and I trust the FDIC far more than the ECB!

I don’t think we will see that in Ireland, a blog post by Lorcan Roche Kelly adequately sums this up. The thing that isn’t being mentioned though is the role of corporate and banking treasury departments in the way that they manage their money and how it is causing the flight of deposits.

Take a pension fund in Arizona, they wanted Euro deposit exposure and they are happy with leaving it in Ireland, but part of their policy is that they can’t keep money on deposit with any institution that is less than A3 or A- (quoting Moody’s & S&P respectively), an upper medium grade rating.

We have passed from upper medium grade last year to lower medium grade, but in 2011 we crossed the Rubicon into the Ba1/BB+ territory which is non-investment grade speculative.

Commonly referred to as ‘junk’, Irish banks earned this esteemed rating on the 11th of February.

What I can say is that any depositors who were holding out before on the corporate deposit side will now be giving up the ghost. The big damage wasn’t done in Q3 or Q4 of last year, it is happening right now. As you read this there is quietly money flowing out of our banks into other banks.

The fact is that even people on the street are afraid, fear doesn’t mean that banks go under, it just exacerbates an existing problem. Banks are a confidence game, I mean that in strict adherence to the nature of the word ‘confidence’ as opposed to implying a ‘con’.

Fractional reserve banking means that they never have the actual cash to hand that is necessary if all liabilities are called in at once; while deposits are ‘capital’ on the balance sheet they constitute a liability to the bank.

To get over this loss of depositor cash banks are increasingly using repurchase markets, often called ‘repos’, currently the main market maker is Goldman Sachs in London and haircuts are in the region of 30% on high quality assets. To address liquidity the banks are leasing out their remaining good assets, but that is different than the issue that is occurring with solvency. The repurchases that could be placed with the ECB or Irish Central Bank are already being done, as was a further €17bn of ’self sold’ or ‘own bond’ issuances under the ELG, effectively any usable asset is on lease.

The tricky situation is that while deposits fly away that banks in fact have fewer liabilities, but at the same time it affects their capital position. That is what the updated PCAR and PLAR reviews are for.

Suffice to say, that somebody somewhere just clocked into work and sat down to their treasury workstation, and the alert came up with an allocation order for part of their assets under management. That alert is saying to move x amount of money away from an Irish bank to another place.

It is mechanical in nature, yes, confidence and news about Ireland plays a part, but with many other funds it is just a domino effect of ratings versus allocation. That is part of the role that treasury managers work with, Irish banks are doing the exact same thing with other banks in other jurisdictions that get similar downgrades.

So the next time you hear that we are downgraded and people say ‘ah sure it doesn’t matter, sure we aren’t out in the market looking for money so it doesn’t affect bond pricing’, be sure to remind them that a corporate can’t list above the credit rating of the sovereign and that mechanical trades will be occurring that make our banks weaker as a result of it. We might not be ‘looking to the markets’ for money, but it doesn’t mean we won’t be looking anywhere for money fairly soon, the biggest damage to deposits to date is likely being done as we speak.