21 May 2019

AIB Group: Project Alder offers c.€1bn of NPLs for sale

The Irish Times is reporting this morning that AIB Group (AIBG) is preparing to offer for sale over €1bn in non-performing loans, primarily made up of small business and corporate loans, though with some related mortgage exposure included in here as well.
 

 

As with previous NPL portfolio disposals, AIBG has made no comment on the potential sale, either in terms of its size or constituent loan make-up, but The Irish Times believes that owner occupier mortgages will make up only a small portion of the proposed loan sale, and so should make it less politically contentious than some of the recent Irish bank NPL disposals.

 

AIBG had total NPEs of €4.8bn at its Q1 trading update, equivalent to 7.7% of gross loans, with the €1bn Project Beech disposal conducted in Q1 helping reduce NPEs from the €6.1bn or 9.7% of gross lending which was reported at end 2018. AIBG management has targeted an NPE ratio of below 5% by the end of 2019, which we estimate would require reducing NPEs by a further c.€1.5bn this year, so any disposal of the Project Alder portfolio would represent significant progress towards this goal.

 

We would note the AIBG investment narrative is heavily supported by its excess capital and ordinary dividend distribution potential, and NPE reduction is a key requirement in releasing this.

 

Irish Economy: Elections likely to show a small swing to the centre, but gains could be a double-edged sword for the government

On Friday 24 May Ireland will hold local and European elections. All 949 local authority seats will be up for grabs, while voters will choose the 13 MEPs that will represent the country in the European Parliament. One quirk for the latter is that two of the MEPs will not take their seats until Brexit has taken legal effect.

 

Opinion polls suggest that Fine Gael, which heads a minority administration in conjunction with independents and the acquiescence of opposition party Fianna Fáil through a confidence-and-supply arrangement, is set to make good gains across the country’s local authorities. It is polling 28-29% at present versus 24% in 2014. Constituency betting odds from the country’s largest bookmaker, Paddy Power, indicate that it could win five European Parliament seats, representing a gain of one from the last contest in 2014. But the outcome of the European elections could have national ramifications. Under ‘dual mandate’ rules, TDs (MPs) elected to the European Parliament have to give up their seat in the Dáil. The aforementioned betting odds suggest that one Fine Gael TD (Frances Fitzgerald, Dublin Mid-West) and one Fianna Fáil TD (Billy Kelleher, Cork North Central) could win European Parliament seats. Assuming both candidates are elected to the European Parliament, were the by-elections for their Dáil seats to be won by opposition politicians this would make the arithmetic in the Dáil trickier for the government.

 

Returning to the local elections, it is worth noting that local government in Ireland has very limited autonomy, with most functions delegated to the executive. Total expenditure by local authorities is only a tenth of what central government spends annually. Planning decisions are no longer in councillors’ remit, although they can decide multi-year development plans that set out high level zoning policies. To this end, the outcome of the South Dublin County Council election may be of particular interest to Hibernia REIT, given that it holds 143.7 acres of development land at Newlands Cross, much of which is currently zoned for agricultural use under the existing South Dublin County Council Development Plan, which runs to 2022. Similarly, the housebuilders will likely view the outcome of contests in the authorities stretching across the Greater Dublin Area (in particular) with interest. In theory, an increased representation for the moderately centre-right Fine Gael party should lead to a more constructive approach to development. In practice, to paraphrase von Moltke the Elder, no draft development plan survives contact with local residents’ groups.

 

The minority administration’s longevity has surprised many commentators, including ourselves. Fine Gael’s status as the most popular party in Ireland reduces the incentive for the opposition to force an election. Another consideration is that many voters would look unfavourably on domestic political instability, given the backdrop of Brexit and what that means for Ireland. All of the omens suggest that the government will carry on into next year and possibly run its full term (another election must be called by April 2021 at the latest). One interesting trend is that there has been a drift towards the centrist parties, with polls showing that the combined share of the vote attracted by the traditional parties of government (Fine Gael, Fianna Fáil and Labour) is running at up to 5pc more than they managed in 2016. Assuming that the polls are mirrored in the results of this week’s contests, we would argue that this reduces the risks of policy changes that would be negatively received by the markets. If we’re right, then the read-through for the likes of the banks, housebuilders, REITs and Sovereign yields is positive, although we wouldn’t overstate the significance of this given Ireland’s existing reputation as a business-friendly climate. (See below for a copy of the full report)

 

Tesco: Tesco Bank selling its mortgage book

Tesco Bank this morning announced that it has ceased new mortgage lending and is looking to sell its existing mortgage portfolio, which covers 23,000 customers and has total lending balances of £3.7bn.

 

Management notes that “challenging market conditions have limited profitable growth opportunities” and so the bank will be looking to focus on “serving broader range of customers in more specific areas”. In our most recent note, we observed that while the underlying retail business was continuing to perform well the bank’s net interest margin and return on tangible assets were in decline. Of our target price, 92% is attributed to the retail business with 8% attributed to Tesco Bank.

 

Brexit update

The pound remained under pressure yesterday and overnight as all things Brexit continued to dampen any hopes of a positive outcome between now and Halloween. The Tories seem more concerned with replacing Mrs. May than fixing the Brexit debacle and as another week dawned, another Tory leadership contender threw his hat into the ever fuller ring.

 

Yesterday it was the turn of ex-Foreign Secretary, Dominic Raab, to join the impending Tory leadership challenge. His opening gambit was a call for a 5% cut in the basic rate of income tax, saying that it would “give working Britain a fairer deal”. Unfortunately for Mr. Raab, his somewhat cynical stunt was overshadowed by slightly more farcical events in the North East when the Brexit Party leader, Nigel Farage was “milkshaked” whilst campaigning on the streets of Newcastle. If the day couldn’t have gotten any worse for a visibly angry Mr. Farage, he has to have been apoplectic when he learned that the UK Electoral Commission will today visit (on the behest of ex-PM Gordon Brown) the Brexit Party offices to audit its accounts to see how it raises funds.

 

Mrs. May is due to meet her Cabinet later today, where she’s expected to request closer customs relationship with the EU in hope of winning some Labour support for her 4th WBA vote in early June.

 

Up today

If we strip out any probable tit for tat commentary surrounding the ongoing US trade negotiations we actually have a relatively quiet day ahead, particularly on the data front. The only real print of note comes out of the UK, where we will get to see the UK CBI trends survey at 11am.

 

The rest of the day is taken up with Central Bank speakers: The ECB’s Visco and Guindos are both due to speak later this morning and this afternoon we should get some words of wisdom from the Fed’s Rosengren and Evans ahead of tomorrow’s release of their last FOMC meeting tomorrow.

 

Dollar gains as tech stocks slip, Powell argues against rate cuts

The Dollar dipped back towards the 21 month lows set towards the end of April on a number of drivers. Firstly, risk sentiment took a further turn lower as US stock indices slipped yesterday. The big losers were US semiconductor and telecoms equipment companies who indicated that they were starting to cut supplies to Chinese telecoms giant Huawei.

 

The dollar was given a further boost by Fed chairman Jerome Powell who was speaking at an Atlanta Fed financial markets conference overnight. He didn’t directly speak around rates, the Fed chairmen indirectly argued against rate cuts when quizzed against the high levels of corporate debt building in the US at the moment. While he acknowledged that business debt had reached a level that should give businesses reason to “pause and reflect”, he dismissed parallels to the leveraged mortgage market in the lead up to the financial crisis and also stated that the Fed were monitoring the market far more closely than they were in 2007. Powell focused on the improvements to bank regulation rather than rates policy, but the message was clear, that he doesn’t expect the Fed to have to aggressively shift policy to deal with a rerun of the subprime mortgage crisis. 

 

Economic releases

15.45  US      Fed’s Evans speaking
17.00  US      Fed’s Rosengren speaking
 

 

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Ireland's local and European election contests