That might not sound like a lot, but according to Comotto it is a substantial sum in absolute terms, especially when you consider that the number already started at a high base. What’s more, the figures reverse what was previously a downward trend.

The remainder of the collateral, meanwhile, is now exclusively focused on good quality alternatives like covered bonds, supranational bonds or equity. ABS-backed transactions, though, have almost completely vanished.

All of the above hence points to no real improvement in interbank borrowing costs and what’s worse a potential quality-collateral run in Europe, much like that seen in the US post the Lehman crisis. As Comotto states (our emphasis):

The concern now is there may not be good govts, to supply demand. ”

Could it be that the AIB collateral is acceptable to the ECB, but not to anyone else? Given the ECB are reducing their repo provisions (in duration, if not in scope), that would keep AIB on a hand-to-mouth existence?

This piece from the Post below tries to explain the accounting aspect. Speaking with a dormant accounting qualification, “true and fair view” and a few other principles would trump this “non adjusting event” technicality. I still believe the FR has a role in this, though I recall that he has used a 45% haircut for NAMA loans when calculating the capital requirments. What impairment did he assume for non-NAMA? And where is he with his role of instilling confidence in Irish financial institutions - does this include minimising reported losses even if the underlying impairment provisions are bats?

“The bank said that the sale of these loans after the reporting date was a so-called ‘‘non adjusting event’’ under accounting rules.

Non-adjusting events are classified as those that occur ‘‘after the reporting period [but which are] indicative of a condition that arose after the end of the reporting period’’, accounting rules state.

The move did not require sign-off from the bank’s auditors, KPMG, as quoted companies are not obliged to publish audited accounts at the half-year stage. An AIB spokesman declined to comment.

The bank’s 2009 annual report, however, states that in determining the carrying value of an asset, ‘‘impairment losses are incurred if, and only if, there is objective evidence of impairment’’ and if events had taken place that meant ‘‘the estimated present value of future cash flows is less than the current carrying value’’.

http://www.thepost.ie/story/?jp=ojausnmhmh

I don’t know the answer. I am left guessing between two alternatives. Either some silly accountancy dogma is preventing the correct value being put on the assets and liabilities OR this is a very crude cover up (fraud?) which has the blessing of our bright new shiny FR.

Given that the FR has set a deadline and a target for 7.4bn my inclination is that he is not part of a conspiracy to cover up the true state of AIB’s finances.

Perhaps we have different views on the role of the FR - having perused the Lloyds and RBS H2 statements (see below for RBS which of course operates in the State with Ulster Bank), it seems that we are here back in mindset to 2006/7 before the whole financial edifice came crashing down and when we knew there were big problems but refused to recognise them. Ireland Inc is still producing (or allowing to be produced) fantasy financial statements.
Seriously how can we hope to restore confidence in our banks and wider economy if we tolerate AIB’s H2 statement (I am talking specifically about the forward looking 18% haircut provision for NAMA-bound loans when T1 & T2 had 42% and 48% haircuts. Though comparing the other loans with Lloyds and even RBS’s Ulster Bank indicates we’re probably light on provisions with non-NAMA stuff as well).

http://files.shareholder.com/downloads/RBS/982127649×0x394144/a434d4bf-3edf-4458-b632-9a3383fe1d5f/RBS_Q2_2010_Announcement.pdf

Does it not seem weird that they are claiming their cost of funding is high (hence the SVR increases), but also claiming that they have plenty of collateral available for cheap funding?

Unless, of course, you aren’t doing any new lending…

“qualifying liquid assets” would i assume mean ECB-qualifying? (what else does it need to qualify for?)

PS I can’t find the original quote in the half-year report? It doesn’t seem to be on P.21

I do see this in the conference call transcript, though:
“The stock that we hold of qualifying liquid assets, or collateral, as at June 30 amounted to EUR49 billion, and it is growing. It currently stands at EUR51 billion as we stand here today, of which EUR26 billion is unencumbered or unpledged.

We have extremely low balances drawn from the ECB, it’s currently a single digit billion number, and as I’ve said, we have a very good stock of unpledged assets available to us in the event that there’s any further liquidity stress.”

It’s an accountancy thing and it cuts both ways. M&T and BZK are also in the H1 Balance Sheet at considerably below their fair value and these have stockmarket valuations so that is nearly as transparent as the fact that we know NAMA destined loans are likely to be worth only 50%.

It is disturbing, I admit, that accounts seem to be meaningless but I don’t think you can blame the FR. It is not his job to get embroiled in accountancy semantics. It is his job to insist on adequate capitalisation and he has done that - he has given AIB till year end to stomp up 7.4bn.

What I mean is that if AIB were to recognise its provision for impairment at a realistic level (the NAMA provision is bats, the other provisions look very low when comparing with Lloyds’ Irish operations), then that increased provision will eat into (possibly erase) AIB’s capital base. As I understood it the €7.4bn capital injection was predicated on a certain level of loss but if that loss grows then the need for new capital grows. That’s what I mean.

As regards sleepwalking into nationalisation. If AIB don’t recognise now that they need raise more than €7.4bn from selling of assets, private capital raising then one morning, when a NAMA tranche is transferred at more than a 18% haircut then AIB or a more ballsy Financial Regulator forces AIB to be more realistic with its provisions then AIB will have no choice but to seek government aid which given the existing shareholding will see AIB nationalised.

yes, the haircut does raise the ‘effective’ rate of funding, but i suppose its not a killer in terms of the ECB haircuts, or if you have half decent collateral to use on private markets. Try repo-ing a Greek govt bond privately however and you’re probably getting pretty close to the 2% ‘real’ cost!

Why not repo with the ECB? (a) perception, (b) cant get long term funding via ECB and (c) you can probably repo the good stuff privately well below the ECB rate anyway (you’d repo an italian govt bond at around 65-70bps for 3mths with a minimal haircut) and (d) the collateral is the de facto ‘buffer’ if the interbank markets freeze up (either for AIB or for the whole market) again, so they want to get alternative funding elsewhere to keep this intact, even if it is more expensive. Obviously they cant continue with this situation forever.

On the interest rate - yes, I always get the sums wrong - it is just not that easy for a history graduate! What I mean, though, is that you are getting an eighth less cash in the repo than the book value of the assets. Does this not increase your cost of finance? (As you have an eighth less liquidity to play with).

@BWII You are really stuck if you are learning from me! Let us learn together, though!
The difference between repo and interbank lending is that in repo the borrower sells assets with an agreement to buy them back at an agreed later date. Usually at a slightly lower price (the interest rate). In interbank lending, the borrower may make a promise of collateral (secured borrowing) or may not (unsecured), but the collateral stays on the borrowers balance sheet.

I’m a bit stumped as to why AIB aren’t repo’ing with the ECB. Surely they can turn their 24bn of sows’ ears into a silk purse for that purpose? What other reason would they have to keep it on their balance sheet for? Risk weighted assets? As derivative collateral? (I would have thought cash would be the only acceptable).

I really do not understand what you are saying. Please enlighten me. AIbhas to raise 7.4 bn in equity. He has given them until Sept, I think. After that, it is most likely that the state converts its prefs to ordinaries and owns the majority of the bank.

if haircut is 12.5%, then the interest rate is still 1%, but you’re only getting 87.5% of nominal collateral in liquidity, so the interest rate on the liquidity would be 1/87.5 = 1.14%?

secondly, BWII is right, as far as im aware, the original owner of the bond (ie AIB) continues to earn the coupons/interest on the underlying security.

Also, re previous funding of Irish banks, in a covered bond, the buyer of the bond still had full recourse to the originating bank, but in a securitisation the bond buyer only has recourse to the underlying cashflows. AS such, only a securitisation really got things properly off the balance sheet, while covered bonds were more a liquidity tool (though may be some off-balance sheet advantages in terms of accounting?). Think it’ll be a good while before we see securitisations occurring in a meaningful way again, but covered bonds will probably start being issued again by good names at some stage later this year hopefully.

I don’t understand your point. The FR has stated that AIB must get 7.4bn capital by year end. H1 results are irrelevant to that demand.

There is a process going on here. AIB has yet to fess up toits loan losses because if it did it would be insolvent. It is also negotiating with NAMA on the haircuts of subsequent tranches, so do not expect it to come out an provide at 50% as you would imagine. Simultaneously it is trying to sell assets without appering to be a distressed seller, even though we all know that this is the case.

Frankly, it is in all our interest that it gets the best possible price for these assets, including selling the UK. This lessens the residual quantum of capital to be raised.

The regulator has given them to the Autumn to come up with a plan. After that, I expect your wishes to be granted and AIB will be nationalised either de jure or de facto.

It will of course depend on a number of factors Lloyds H2 (which as you correctly say will relate to group cos Halifax and BOS as far as Ireland is concerned) don’t publish H2 information to the same level of detail as AIB but they do say “Commercial Real Estate made up 42 per cent of loans and advances to customers in Ireland at 30 June 2010 (and 40 per cent at 31 December 2009).” That’s about as good a breakdown as you’ll get for Ireland.

By the way the impaired loans for AIB (page 10+11) total €19,793m. AIB say on page 72 that mortgages are €28 129m.

On the face of it I’d expect more impairments on commercial than residential which would imply that AIB should be well north of 18.2%.

We know the NAMA provisions are ridiculous on light of the actual haircuts on T1 & T2. What on earth is our Financial Regulator doing - he was visible at the start of this year with his permanent supercilious scowl - now he’s disappeared - is the challenge too great for him?

Obviously it depends on the make up of the loan book. Resi mortgages would be low on impairment, development/construction high. What was Halifax/BoS main lending activity?

Lloyds (Ireland)
Total loans - GBP 26 682m
Impaired loans - GBP 11 689m
Provision for Impaired loans - GBP 4 857m
Provision as a % of total loans - 18.2%

AIB
Total loans - €126 697m
Criticised loans - €42 190m
Impaired loans - <€42 190m
Provision for Impaired loans (note 23, p78) €8 609m
Provision as a % of total loans 6.8%

It seems to me that the foreigners (Lloyds) who are no longer in the intensive care unit are prepared to realistically recognise the condition of their loans.

Or are we seriously to believe that Lloyds will have losses on their Irish loan book at a level three times (!) the level of AIB in total. (18.2% v 6.8%).

http://www.lloydsbankinggroup.com/investors/financial_performance/company_results.asp

Note, I believe that repo is different to the interbank borrowing the banks were funding themselves with before the crunch. While interbank borrowing may have been secured on assets, there was no transfer of ownership. So using repo from the ECB is not the same as going back to interbank borrowing. Trust in the Irish banks (and in the value of their assets) remains low, so interbank lending rates remain high for any significant term, one supposes.

Its farcical for AIB pretending all is well whilst engaging in funny accounting. If the explanations offered above (not to be seen to be relying on ECB) are correct, then believing the markets will buy bonds (unguaranteed) from them while not recognizing losses coming down the line seems far fetched. I presume that is the reason for the call for the extension of the guarantee.
The lack of disposals is intriguing - M&T could have been sold long ago. It would appear that there is another agenda.

Okay, I’ll accept that for one reason or another there is a stigma in going with begging bowl to the ECB. As a shareholder my own view would be don’t be proud, 1% is better than 5% no matter what the stigma.

Anyway, we are drifting a bit off topic. This accounting for bad debts is starting to bug me. If it is acceptable to set up a provision for 18% impairment on loans which you and everybody else knows you are going to sell in a few months at a 50% discount how can we place any credibility on non-NAMA provisions where we have far less transparency?

its also a case of needing to return to normality, even if this runs at a loss short term. The basic idea would be that you issue 5yr at, say, 5% tomorrow, then try for 4.75% in a couple of weeks, then 4.5% and so on etc. If they just stuck to using the ECB everyone would know they were somewhat goosed and they’d find it very difficult to return to the markets again at a later date. They can also raise some funds on the private repo markets in the same way, but im not sure how or if that is accounted for on their books.

That sort of explains it. All the same if rolling 6 month ECB funding at 1% is guaranteed to be available one wonders why fund at 5% and more irerspective of durational and perception issues.

Maybe Tull’s answer gives a bit of a clue - ECB funding is not after all guaranteed to be available in the future, at some stage one is required to show independence from the hand-outs.

You don’t have to have exhausted all avenues before being allowed repo with the ECB. It’s an open window. Repo’s are short term in nature i.e. <1 year. A bank has to manage the duration of it’s liabilities and that is why they would always to look to do longer term but more expensive funding through bond issuance. Also they don’t want to be seen to be using every last bit of collateral to obtain secured funding.