Anglo Chairman-designate Alan Dukes appeared on This Week on RTE Radio 1 yesterday. One aspect of the interview that worried me was Mr. Dukes’s comments on subordinated debt.
Anglo’s plan is to split into a good bank and an asset management agency which will gradually be wound down. It seems very likely that the subordinated bonds will end up as liabilities of the asset management agency as this is what occurred in the case of Northern Rock, which Matthew Elderfield has said is the model that is being followed.
The asset management agency will not be a bank and will not have to be capitalised as such. None of the subordinated debt is due until 2014, by which time one would hope that the policy of the Irish government should be to tell these bondholders that the state would not be ploughing further funds into the bank to see them paid off.
Given that none of Anglo’s subordinated debt after nationalisation matured until 2014, and given that a plan for restructuring the bank was still being formulated and discussed with the EU Commission, last year’s decision to repurchase €2.5 billion of its subordinated debt last year for a price of €750 million represented a terrible and pointless waste of taxpayer money. What was particularly unfortunate about it is that most of what was bought back was undated subordinated debt that didn’t even manage to make it into the September 2008 liability guarantee. (See page 105 of Anglo’s annual report.)
On two different occasions in the interview, Mr. Dukes discussed last year’s subordinated debt buybacks. Here’s the first:
Alan Dukes: We, and the other banks, during the course of 2009 bought back a substantial amount of debt from subordinated bond holders and it worked to the benefit of our balance sheets. We have a certain amount of subordinated debt still out there.
Richard Crowley: How much?
Alan Dukes: Just over two billion. There is a policy issue about how you treat it. It’s not as uncomplicated and straightforward as some people say because you have to have regard to the effect that that has, if you’ll forgive the technical term, on your lower tier 2 capital.
And here’s the second:
What we did in 2009 was that we offered to buy it back at a price that was a little bit above the then-market level which way way below par. It was judged by the market, in the circumcstances, to be an attractive offer. And we got pretty much what we exected to get out of it and the net benefit to the balance sheet was €1.8 billion.
These comments worry me because they put a very positive spin on last year’s subdebt buybacks, so much so that they give grounds for worry that the bank may do this again. I really don’t think these transactions should be viewed from the prism of “strengthening Anglo’s balance sheet by €1.8 billion”, they really should be thought of as “wasting €750 million of the state’s money.”
The comments about Tier 2 capital are also a bit worrying. This comment may sound very technical but what Dukes is saying with this comment is that Tier 2 capital is there to absorb losses so we should worry about defaulting on subordinated debt because it will reduce the bank’s ability to absorb losses.
Well even if the bank wasn’t being split into two, there are plenty of losses to absorb, so the idea of Tier 2 capital is that these guys are there to absorb losses under this scenario. However, one would surely have to presume that the subordinated bond liabilities would end up in the asset management company. And since the asset management company doesn’t have to comply with capital standards, it won’t need to worry about its capital ratios.
I think it might be a good idea for Mr. Dukes to make a clear statement on this matter: Can he promise the public that Anglo will not again use state funds to buy back subordinated debt?
Mr. Dukes was very positive about the possibilities for “good Anglo” to play a positive role in the economy in the future, citing the potential contribution it could make to funding the SME sector, infrastructure, green economy and innovation. Since the bank has no experience in these areas and no branch network either, this seems somewhat optimistic. To be fair, Dukes did also say he saw the bank getting involved in property projects that will come out of NAMA but one has to wonder whether we really want that.