Frank Daly on NAMA Providing Finance

NAMA Chairman Frank Daly gave an interesting speech today. NAMAWinelake analyses the speech in detail here.

Daly discusses how NAMA may get sales going in both the commercial and residential property markets. In terms of commercial property, Daly describes how NAMA can provide finance in a simple and clear manner which hopefully will dispell some of the confusion about this issue when it first came up (the point of this post was that it was a very simple issue but that didn’t stop us getting various comments about where would they get the money from, the whole thing being circular and Ponzi schemes and the like …):

To illustrate how stapled financing might work in practice, let us take the case of an investor who wishes to buy a property asset from a NAMA debtor or receiver but who cannot source any funding or sufficient funding from banks even though he is willing to contribute 30% equity. Assuming a purchase price of €100m, the investor would pay €30m upfront to NAMA and then enter into a loan agreement for the residual €70m which would see him repaying the principal on an amortising basis to NAMA over a five/seven year horizon. The original debtor’s outstanding obligations to NAMA would fall by €100m. The net impact for NAMA would be positive in a number of respects. It would have generated a transaction in the market which would not otherwise have taken place. It would have replaced a loan of €100m with what is likely to have been a weaker debtor with a performing loan of €70m with a stronger debtor, thereby reducing and diversifying its credit risk. It would also have a cash receipt of €30m which it could then use to reduce its own debt. In reality, it does not require any new money from NAMA; it is a recycling of existing debt but achieving a significant cash payment upfront.

The comments about selling residential properties are more interesting. Because the maturity of most residential mortgages extends well beyond NAMA’s projected lifespan, they are keen to get involved with the two pillar banks to provide mortgage finance. Interestingly, NAMA appear to be willing to provide funds to insure purchasers against future price declines:

Our aim would be to unveil a product with the two banks in the early autumn which meets a number of key criteria: one which generates sales of property controlled either by NAMA debtors or by receivers yet provides an incentive to purchasers to invest at current prices in the knowledge that there will be a mechanism in place which will offer them protection against the risk of negative equity in the event that prices should continue to fall. Given that NAMA is effectively providing state funds for this purpose and the pillar banks will be largely state owned, it raises a question about whether such mortgages should be offered beyond the limited set of residential properties owned by NAMA.

Finally, this passage will prove popular with many:

A number of debtors appear to be trapped in the old mindset whereby it is they and not the lender who sets the terms on which business is done. It is akin to falling overboard and then complaining to your rescuer about the colour of the lifebuoy that he is about to throw in your direction. Some of them have difficulty surrendering the grandiose lifestyles that they seem to regard as their continued entitlement, even if the rest of us are expected to pay for it through higher taxes and cuts to services in our schools and hospitals. We have and will enforce against such debtors. If the taxpayer is being asked to keep you in business, it would seem to be a matter of basic common sense that you do not seek to maintain a lifestyle that is beyond your means. The taxpayer does not owe you a living and certainly does not owe you an unrealistic lifestyle if you are not in a position to repay your debts.

Tough words. Let’s see if they’re accompanied by corresponding actions.

NAMA to Provide Finance

NAMA Chairman Frank Daly gave a speech this morning and the following excerpt is going to get a lot of attention.

NAMA is currently exploring ways in which it could further facilitate the provision of liquidity into the market by providing staple finance for commercial deals and also by exploring options on the residential front. Following the PCAR2 exercise we would, for example, be interested in talking with the two Pillar banks to see how we could work together to move things along in this area. At a time like this, it is imperative that NAMA is creative in terms of identifying solutions to get the market moving.

I’m obviously completely missing something here. Why does this need “exploration”? Why does it have to involve the Pillar banks which are supposed to be shrinking their property loan portfolios, not adding to them?

Here’s a two step guide to selling a NAMA property without needing banks to provide finance: 

1. Have a competitive auction.

2. The winner gets offered the option of either paying in full in cash or getting term finance from NAMA, i.e. they pay back the amount they bid (less cash put down) over time including interest.

What have I missed? And why didn’t NAMA operate like this from the start?

April Fools One Year Ago

Given the day that’s in it, I was contemplating whether to do a funny story. But then I remembered the Irish Independent’s entry in the April Fool’s stakes from last year and figured I couldn’t beat it.

Brendan Keenan interviewing Brian Lenihan:

“With the banks playing for time, and the regulatory system discredited, we needed to establish an asset-relief programme like NAMA. That takes time to put into practice. It can’t be done overnight.”

He makes a point that tends to be overlooked in discussions of whether more should have been done sooner. It could not have been done 12 months ago, with the financial markets fretting over the scale of the budget deficit.

The country came close to not being able to borrow the money to keep it running. Attempting to cover the bank losses as well might have made that danger a reality.

At the time, however, I didn’t find it that funny.

Frank Daly on Residential House Prices

The complications caused by the absence of a properly representative national house price index have been illustrated again via a speech given by NAMA’s Chairman Frank Daly (see NAMAWinelake here). Frank discusses NAMA’s assessment of the residential sector as follows:

On the residential sector the Central Bank is forecasting falls of 60% from peak (end 2006) to end 2012 under its adverse scenario or 55% under its baseline scenario – based we understand on the PTSB\ESRI index. At NAMA we are not surprised by this and it is not as alarming as one would first think. We do not believe that the PTSB\ESRI index currently showing close to 40% fall from peak is realistic and reflective of where the market is. NAMA’s base valuation date was November 2009 and at this date we were already taking account of on average 50% falls in residential property values from the peak.

So while the residential market may have some little more to fall and no one can be certain that an average fall of 60% from peak may not occur in residential house prices, we would believe that the bulk of this has happened already.

Based on my own anecdotal sample, I’m inclined to agree with Daly that residential prices have fallen more than shown by the PTSB\ESRI index. However, the implications for the Central Bank stress testing exercise strike me as a little more serious than Daly suggests. Daly indicates that most of the peak-to-trough decline envisaged in the Central Bank stress scenarios has already happened.

But this raises the question as to whether the stress scenarios should be based on a peak-to-trough calculations or should they be based on an assumption about a current level of prices and an additional assumption about further declines. It’s not clear why the scenarios should be based on a peak-to-trough assumption. And if, for example, the valuation of residential mortgage portfolios is based on an inaccurate assessment of current levels of house prices, then this may undermine the credibility of the calculations. I would hope that the report accompanying the stress test results would discuss this issue.

NAMA Does Not Borrow from the ECB

One of the really strange things about economics reporting in Ireland is that once a politician has said something with enough authority, it becomes repeated as truth time and again by our financial journalists, no matter how untrue. An incredible example of this is the idea that NAMA borrows money from the ECB.

During the long tedious NAMA debates of 2009, every government politician was sent out with a spin line about NAMA involving the government getting cheap money from the ECB. Even though it was untrue then, the idea has remained amazingly popular. Now, as rumours of some form of NAMA 2 (perhaps for mortgages) start to circulate, our financial journalists are still busy misrepresenting the basic transactions at the heart of the original NAMA.

Today’s Sunday Times (not on the web as far as I know and I don’t think it would be free even if it was) contains the following two examples. First, we have Brian Carey and Tom Lyons:

The difficulty is who will fund the establishment of Nama 2. Nama is current funded by the European Central Bank.

Then we have Damien Kiberd:

The Irish state has accepted responsibility for both sides of the several banks’ balance sheets. It has done this by providing guarantees that cannot, in extremis, be honoured and by purchasing distressed bank assets using money from the European Central Bank.

Unfortunately, this is not at all how the government, in the form of NAMA, purchased distressed bank assets. The reality is that NAMA purchased the assets by swapping them in exchange for Irish government-backed bonds. There – that’s how it was done. Not so hard to understand really. In fact’s it’s hard to misunderstand. NAMA is funded by you and me.

Of course, one can – if you want – discuss the idea that NAMA bonds can be repo’d with the ECB, if the mood is on them. (And indeed, from the last time we discussed this, I know there are people who comment on this site who have the ability to twist words in such a way that they can satisfy themselves that somehow saying “the ECB funds NAMA” makes sense – but frankly I think those folk are having a laugh.) But that doesn’t change the basic reality of the NAMA transactions.

Given the importance of NAMA as well as the important role the ECB is playing in propping up the Irish banking system, it is really unfortunate to see the roles played by these organisations being misrepresented in this fashion.

Argument for an Election Growing?

Today’s banking announcements were marketed as bring finality to the banking crisis but that was always unlikely. The final costs and implications of the crisis still depend on stuff that happens in the future which, word has it, can be tricky to predict. Jagdip has an as-always excellent discussion of the various loose ends here. I think the point that AIB and BoI’s non-NAMA loan books have not been subjected to the same stress tests as Anglo’s is an important point and one that could come back to haunt us again.

On the fiscal front, Minister Lenihan’s announcement of a new four year plan is welcome. Though the official statement didn’t say this, the Minister’s said during his press conference this morning that the plan would detail both expenditure cutting and revenue raising measures which would make it a more credible plan.

That said, the effect of multi-year plan in convincing the bond markets that we are on the road to sustainability will be severely limited by the fact that the government will have at most two budgets, and far more likely one, before the next election.

With the government having taken the decision to stay away from the sovereign bond market until January, there is a strong argument in favour of calling an election to take place in November.  Each of the political parties could be given 3 weeks to prepare their own multi-year budget proposals, followed by a 3 week election campaign, giving a new government another four weeks to negotiate a program for government and introduce a December budget.

This course of action would have the following advantages.

1. Because we are on a temporary break from the bond market, the movements in bond spreads that would take place during the campaign would be essentially irrelevant. All that would matter at the end of the day would be the budget and multi-year plan implemented by the new government.

2. The multi-year plan would be seen by the outside world as having political legitimacy. The question of whether the government had a mandate to introduce unpopular measures would disappear. And despite regular claims from journalists that the opposition are irresponsible and have no policies, both Fine Gael and Labour did produce plans last year detailing how they would implement a €4 billion adjustment. Likewise, I would have little doubt that they would be forced to provide multi-year plans to match the government’s and that the election debate would be dominated by the comparison of these plans.

3. The difficult decisions in the upcoming budget would be taken by a new government, most likely with a large majority and not worrying about elections for another five years. Difficult decisions like the introduction of a property tax could be taken without concerns about discontented backbenchers and with the knowledge that the economic situation will look better in 2015.

I’m sure in writing this I’ll get the usual flak from the usual sources, claiming I’m putting this argument purely because I’m a Labour supporter or a Blueshirt or something or other. In truth, I have no affiliations or loyalty to any political party. I just think that there are a number of objective arguments for calling an election now.  If the government puts together a concrete multi-year fiscal plan and runs an election campaign on the basis of it, they will have done a considerable service to the country.

NAMA Presentations

The presentations at the Cantillon School by NAMA CEO Brendan McDonagh and at the Fianna Fail think-in in Galway by NAMA Chairman Frank Daly are available online.

I don’t have time to discuss these presentations today but I would refer anyone interested in NAMA to the always excellent NAMA Wine Lake blog. How our friend Mr. Singh finds the time to keep on top of it all is a mystery but, however he does it, we are very lucky to have him.

Lex on Nama

The FT’s Lex column gives its pithy assessment of Nama.

A flavour:

Nama is an odd creature: part debt collection agency, part property developer. As well as toxic loans, it may end up with a portfolio of property which was collateral for the banks’ lending binge. It was meant to fix the broken banks, convince taxpayers they might be repaid and reassure the markets the banks’ liabilities would be met in full. Facing in three directions, it has not appeared convincing in any: slow, bureaucratic, initially indecisive, almost excessively transparent (every toxic loan is assessed individually).

It concludes a bit more hopefully.

More Comments on AIB’s Half-Yearly Report

I surely have better things to do with my time but, yes, I spent the evening reading AIB’s half year report (with the Airtricity boys doing us proud in the background.) As John already noted, the report has a lot of pretty bad news in it, so I thought I’d point out some sort of positive news (before getting back to the bad stuff).

Liquidity Situation

The good news? Despite concerns that have been expressed about a looming “wall of cash” moment, AIB looks as though it’s in a position to get through to the end of the year paying back all its debts, though this may require ECB assistance.

Continue reading “More Comments on AIB’s Half-Yearly Report”

No Frank, NAMA is Not Being Funded by the ECB

On RTE radio this morning (on Today with Pat Kenny with, em, Myles Dungan) Fianna Fail TD Frank Fahey said:

I stand by what I said about NAMA from the very beginning. NAMA is being funded … the bonds are being funded by the European Central Bank.

Now I know that language is a flexible thing and perhaps philosophy graduates could spend all night debating what the meaning of “being funded” is. But, I would suggest that the only reasonable interpretation of this statement is that it implies NAMA are receiving funds from the ECB.

This is not at all true. The ECB has no direct relationship with NAMA at all. NAMA bonds can be used by the banks that have received them as collateral for loans from the ECB but that’s it, that’s the full extent of the ECB’s involvement in relation to NAMA. Furthermore, AIB and BoI executives told the Oireachtas last year that they had no particular plans to use the bonds in this fashion.

The NAMA bonds are fully backed by the Irish government. They are a liability of the Irish state, albeit one entered into at the same time that it acquired some property assets that may or may not yield enough to pay off the bonds.

It is long past time for government politicians to stop misleading the Irish public that NAMA somehow involves the state getting money from the ECB. I would plead with any journalist interviewing Deputy Fahey or any other commentator making this claim in the future to point out to them that it has no grounding in fact.

NAMA Tranche 2 Transferred

Details here. Mysteriously, there are no Anglo loans being transferred yet in this tranche. We’re told “Loans will be acquired from the remaining institution – Anglo Irish Bank – over the coming weeks after all necessary due diligence material has been received and evaluated.” It does seem deeply odd that the bank that NAMA is supposedly having the greatest difficulty processing information from is one that is fully owned by the state. An alternative intepretation offered by Jagdip is that the delay relates to EU State Aid nexus.

The discounts on these loans are higher than the first tranche. I don’t think, however, that I can agree with Brian Woods II that this raises the potential profit for NAMA. The new tranche reflects new information on valuations not available when the business plan was put together, though unlike the first tranche, no valuation estimates have been provided. So, in this case, the lower prices paid likely also reflect a lower long-term economic value. It would, of course. be nice to see NAMA re-issue the business plan after each tranche but it ain’t gonna happen.

It Depends on What the Meaning of “Cashflow Generating” Is

Here‘s an interesting article from the Irish Times by Simon Carswell in which NAMA’s senior officials squirm about their changed assessment of the quality of their loan portfolio, blaming most of it on the fragile psychological state of our bankers last Autumn (poor dears). The highlight:

Mr McDonagh said some loans – on top of the 25 per cent that were generating income – were yielding some, if not all interest due, but Nama was still assessing this.

“Twenty-five per cent is cashflow generating – the rest has some cashflow generating,” he said.

It brings to mind our friend Maurice O’Leary’s favourite quote:

“When I use a word,” Humpty Dumpty said in rather a scornful tone, “it means just what I choose it to mean — neither more nor less.”

NAMA Profit Projection Due to Faulty Haircut Calculation

I had thought there was something a bit odd about how the NAMA business plan extrapolated from the 50% discount applied to the first tranche to come up with its figure for the amount it would be paying for its full portfolio. After all, the fraction of Anglo loans in the first tranche was higher than for the total portfolio and these are likely to be worse in quality than the average loans from AIB or BoI.  Surely, the correct approach would have been to calculate this figure applying the institution-by-institution discount from the first tranche to the total consideration, assuming for example that the first tranche haircut for AIB is the appropriate figure to apply to the rest of AIB’s NAMA portfolio.

So, I did the calculation (here‘s the spreadsheet) and, lo and behold, it projects that NAMA will pay €41.7 billion for the portfolio, not the €40.5 billion they published in the business plan based on extrapolating from the first tranche aggregate discount.

It turns out that Jagdip had done the same calculations before me and discussed them here.  I agree with his comments there and believe this implies some pretty serious questions about the thinking that went into the production of this business plan.

Suffice to say, from here on, I will be assuming that NAMA are going to spend €41.7 billion, not €40.5 billion, and that the baseline case in which full long-term economic value is recovered actually implies a small loss rather than a profit.

Update: As Jagdip points out below, if the base case now becomes a loss of €200 million, this can be made up by not honouring €200 million of subordinated bonds. So the outcome is neither profit or loss. Of course, the “realise ten percent less than LTEV” scenario (known to some as the worst-case scenario) would now be a loss of €2 billion because the original €800 million loss in the business plan already accounted for the sub bonds not being honoured.

Why Larger Losses on NAMA are Likely

Day 2 of the new NAMA business plan and I’m sure people are already a little tired of it as tolerance for all things NAMA has dwindled for most of us. For those still interested, Constantin Gurdgiev has a number of useful calculations in this post.

I’ll conclude on this issue for now by making a few simple points as to why I think the outcome for the taxpayer is likely to be worse than indicated by the plan’s “worst-case scenario’’ of an €800 million loss to be recouped via a levy. Continue reading “Why Larger Losses on NAMA are Likely”

NAMA Business Plan

NAMA have now published their business plan (announcement here). I haven’t looked at it in full detail but a few comments are worth making at this point.

First, it’s not much of a plan. It doesn’t bother trying to update the draft plan‘s year by year analysis of cashflows. As such, the scenario analysis, such as it is, seems like it will be pretty useless to those of trying to assess its credibility.

Second, in relation to Monday’s leaks, the prize for accuracy goes to the Indo’s John Mulligan who correctly reported the new information on cash flows was that NAMA now estimate that 25% of the loans are cash flow producing, which was more accurate than the Times report of about 20 per cent. To be specific, the plan says:

the draft Plan assumption was that 40% of acquired loans would be income-producing; however, the level of debtor impairment evident from the first tranche loan transfers suggests that 25% may be a more reasonable estimate. Similarly, the actual LTV ratios that have become evident during the Tranche 1 due diligence process have been higher than those indicated by institutions last autumn.

There are two possibilities in relation to the difference between the current and draft business plans in relation to their assessment of loan quality. Either the information provided to the government by the banks last year prior to the passing of the NAMA bill was highly inaccurate (speculate yourself as to why this might have been) or the loan portfolio is deteriorating rapidly.   It would be useful for NAMA to clarify the relative contributions of these two factors.

Third, I find it interesting that when NAMA CEO Brendan McDonagh appeared before the Oireachtas Finance Committee on April 13, NAMA had already paid for most of the first tranche of loans. And yet, at the time, McDonagh said that “we estimate the figure is probably closer to one third, that 33% of the loans are cashflow producing.”

It might be possible that the discrepancy between this estimate and the current estimate is accounted for by new information about Anglo’s loans, which were still being analysed when McDonagh gave his one-third estimate. That said, why it should be difficult for a government to find out how many people are repaying the NAMA-bound loans beats me (a point that applies doubly when the bank in case has been nationalised bank.) Less palatable is the idea that we are finding new nasty surprises about loans after we have already paid for them.

Are One Third of NAMA’s Loans Producing Cash? No.

You might remember that a few months ago, NAMA CEO Brendan McDonagh appeared before the Oireachtas Finance Committee and told them that one third of NAMA’s assets are cashflow producing. I noted at the time (based on the information in bank annual reports) that this didn’t seem to me to be correct, with the likely figure being a good bit lower. Now, the media are leaking details of NAMA’s new and improved business plan and we are being told that “only about 20 per cent of the loans are generating any income, that is repayments or interest payments.”

This raises an interesting question: Was Mister McDonagh misinformed in April when he said that one-third of the loans were cashflow producing or have 13 percent of the loans stopped producing income between April and July? Neither answer is particularly palatable.

As for “In a worst-case scenario, Nama could end up losing several hundred million euro” one really has to wonder do the people who put this plan together know what a worst-case scenario means.  However, coming from the folks who brought us the 80% full recovery scenario, I suppose we shouldn’t be surprised.

State Gets 18% of AIB

AIB have released an interim management statement. As expected, the bank has not been able to pay the state its cash dividend of €280 million, so they are issuing shares for this amount instead. The NAMA bonds are referred to “enhancing our contingent liquidity resources.”

As an aside—and sorry to bring up Frank Fahey twice in two days—I’d note when I appeared on the radio with Deputy Fahey in February, he told listeners that the government would definitely be getting its cash dividend from AIB in May. I noted at the time that the coupon stopper was in place “to prevent the reduction of own funds by financial institutions which are still reliant on State aid to fulfil regulatory capital requirements” and so this was highly unlikely. To my mind, the fact that government politicians are sent out to continuously over-promise in relation to their banking strategy ultimately ends up just undermining their credibility.

Update: I just noticed that the Department of Finance press release contains the following:

The Minister explained:

“The €280 million in ordinary shares issued to the Fund will count towards the additional €7.4 billion equity capital requirement determined by the Financial Regulator so that AIB will meet the new base case capital standards.”

I’m not sure I understand this. The state is not putting any extra funds in, just receiving shares that dilute the existing ownership. Can the issuance of these pieces of paper in exchange for no money really raise regulatory capital? If this trick works, why can’t the bank’s ownership just issue a few million more shares to themselves for free? Then reaching the €7.4 billion target will be no bother.

Are One Third of NAMA’s Loans Producing Cash?

I received an email recently from someone who objected to my characterisation of NAMA’s goal of being cashflow positive as something of a loaves and fishes act.

The argument put to me was that while Brendan McDonagh says that only one third of NAMA’s loans are income producing and NAMA is projecting to pay a discount of 47% for these loans, the fact that the interest rate on NAMA’s income generating loans are higher than on its bonds means that it will still generate positive cash flow.

Specifically, NAMA’s bonds will pay six-month Euribor while, we are told, that its assets are generally Euribor plus two percent. In this case, NAMA would be cash flow positive as long as 0.33(i+2) is greater than 0.53 i. This requires i < 3.3. In other words, as long as six month Euribor is less than 3.3% (it’s currently about one percent) then NAMA would be cash flow positive.

I don’t disagree with the algebra of the above paragraph. But I do disagree with some of its underlying assumptions. I’m going to write a couple of posts on the various aspects of NAMA’s cash flows.

Here, I want to discuss the extent to which NAMA’s loan portfolio is generating cash.

Continue reading “Are One Third of NAMA’s Loans Producing Cash?”

McDonagh at the Oireachtas Committee

NAMA CEO Brendan McDonagh appeared today before the Oireachtas Committee on Finance and Public Service. Here‘s a copy of his opening statement. Normally, when there are important Oireachtas committee meetings, I usually have to wait for the transcript to go up on the website. However, thanks to the tireless work of our friend Jagdip Singh, you can get a lot of information on what happened today here and here as well as lots of excellent questions.

One statement from McDonagh that got a lot of attention today was that, of the loans in the first tranche, only one-third are paying interest. I wasn’t too surprised about this because it tallys well with information from the annual reports released by Anglo, AIB and Bank of Ireland.

As I noted earlier in comments, the amounts going in to NAMA from these banks in terms of initial face value are as follows: €36 billion from Anglo, €23 billion from AIB and €12 billion from BoI. That’s a total of €71 billion.

All three banks have released detailed analyses of the loans going into NAMA (here, here and here). From these, we know that €6.6 billion of Anglo’s NAMA-bound loans are neither past due or impaired while the figure for AIB is €10.4 billion and for BoI is €5.4 billion. Add them up and we get that, according to the banks own figures, only $22.4 billion of these loans are performing.

So, according to the figures released by the banks, of the original €71 billion in loans made, only €22.4 billion or 31.5% are currently performing.

One can also point out that if the discounts from face value of 50% for Anglo, 43% for AIB and 35% for BoI are applied across the board to the rest of the tranches, then NAMA will pay €18 billion, €13 billion and €8 billion respectively for a total of €39 billion for the loans from these three banks. So, for these banks, we are paying €39 billion euros for a portfolio of loans of which only €22.4 billion are ostensibly currently generating any revenue.

Donal O’Mahony Returns

Our old friend Donal O’Mahony from Davy’s returns to defend NAMA in today’s Irish Times and he’s on form.

The article starts with some reasonable observations:

IT HAS proved a prolonged and at times frustrating gestation period, but the policy prescription to stabilise the Irish banking system and help kick-start credit creation has finally reached its implementation stage. Nama’s journey has been an understandably arduous one, confronted as it has been by a welter of legislative, regulatory and, not least, administrative needs.

Fair enough. However, one doesn’t get any sense from this article that there was an alternative to the slow and tedious procedures surrounding The World’s Slowest RecapTM. The delays, it seems, are simply something that must be endured.

Continue reading “Donal O’Mahony Returns”

Mr. Keenan and Political Economy

A common jibe that journalists and politicians level at academics they disagree with, or perhaps just plain don’t like, is that the academics are disconnected from reality by virtue of their ivory tower employment. In relation to economists, this often takes the form of the tired line about the discipline originally being called “political economy” and academics putting forward proposals that are “good economics” but “bad politics”.

Brendan Keenan’s column in today’s Sunday Independent is a classic example of this genre. Mr. Keenan argues that the various economists associated with this blog (the “dissident economists” formerly known as “opinionated economics lecturers”) are politically naive and their advice unsound. Specifically, Keenan proposes that we would be better off if, contrary to recommendations emanating from this site, the government had paid more to the banks for the NAMA loans and demanded lower capital ratios.

There is such a thing as political economy. Anglo would still have been a nightmare, but a somewhat more generous payment from Nama, and a less stern view on bank capital, would have made the numbers a lot less frightening.

That might have made it easier to get the deal with the trade unions approved, and get another unpleasant Budget through in December. Not only better politics, but possibly better economics than worrying about Tier One capital and Long-Term Economic Value.

I’m not sure that either the politics or the economics of this column are particularly compelling.

Continue reading “Mr. Keenan and Political Economy”

More Secrets from the NAMA Temple

The EU Commission has released the full text of its decision to approve NAMA announced on February 26. Emmet Oliver discusses the statement in today’s Independent. Thanks to Jagdip Singh for the hat tip. What I find frustrating about this process is why we get a minimal “EU approves NAMA” statement in February and a slightly-censored version of the full approval six weeks later. It would be far preferable for the full text to be released at the same time as the announcement of the decision.

Thanks also to Jagdip for getting us more information on the “NAMA total consideration” mystery. As outlined in his comment, Jagdip wrote to NAMA:

Dear Sirs,

I have studied your four publications from Tuesday 30th March 2010 with respect to the transfer of the first tranche of loans to NAMA. I write to ask if you could make publicly available the overall methodology to derive the Long Term Economic Value (LEV), Current Market Value (CMV) and consideration paid with respect to the first tranche of €16bn of gross loans.

In summary the gross loans of the first tranche are estimated at €16.03bn, the LEV is shown as €10.51bn, the CMV as €9.44bn and the consideration paid is €8.51bn. Could you explain in general terms how the LEV and CMV were calculated and why the consideration paid is different to the LEV.

Also the press have widely reported the estimated haircut on the first tranche at 47%. Would it be more accurate to quantify the haircut as 34% (1 – LEV/Loan Value or 1 – 10.51/16.03)?

I have read the Act and the LEV Regulations before writing to you and I can still not resolve the figures produced for the first tranche. I propose publishing any response from NAMA to the above questions on the blog.

Jagdip received a reply (Garbo speaks!):

Thank you for your email.

Please see below a brief guide to how NAMA obtains these calculations:

1. The €16.03bn is the nominal value of the loan balances transferring to NAMA.

2. The property CMV represents the current market value of the property as at 30 November 2009.

3. An LEV uplift factor is applied to the property CMV to arrive at the property LEV which is one of many inputs to the valuation methodology to arrive at the consideration NAMA will pay for any of the transferring loans. In addition to the LEV of the property, the loan valuation is determined by reference the discount rates per the valuation regulations taking account of enforcement costs and the legal due diligence levy, and the potential for legal haircuts regarding defects in security and title amongst other inputs which influences the consideration paid by NAMA for the loans. The average LEV uplifts per participating institution are available on our website.

4. The discount applied can therefore be calculated as: (1- (Consideration paid/Loan balances at transfer)).

Some additional information is available on our website

As Jagdip notes, “defects in security and title” are likely to be the principal explanation for why the “total consideration paid” for the first tranche was below the “current” (i.e. November 2009) market value of the underlying assets. I think this means that the signed copy of the 46 guy letter is on its way to an anonymous NAMA official, who I’m sure will treasure it.

Between this reply and Brian O’Neill of NAMA’s letter to the Irish Times commenting on Brian Lucey’s criticisms of their ingenious linked-to-Euribor strategy (Brian’s original article here and reply to NAMA here) there is some sign of NAMA becoming a somewhat less secretive organisation. This is a welcome development though I suspect those who ask tough questions may find limits to this transparency.

Lenihan Says NAMA Will Stop Houses Prices Falling

In an interesting prediction, the Minister for Finance, Brian Lenihan, has said that Irish house prices will now hit bottom thanks to the NAMA transfers. The Sunday Independent reports:

Yesterday, Mr Lenihan told the Sunday Independent: “One of the good things about the steep discount, averaging 47 per cent, is that the residential property market will now be stabilised at a realistic level.”

He added: “You can now buy in confidence that the price is realistic.”

Perhaps I’m being stupid here, but I’m having troubles linking (a) The setting of prices that the government is willing to pay to banks for non-performing property loans (largely backed by commercial or development property) with (b) Prices that people are willing to pay for residential properties.

The Minister reckons the NAMA transfers will act to boost the residential property market. Just playing devil’s advocate, one could point a large surplus of properties for sale, high unemployment, pay cuts, future tax increases, higher mortgage interest margins, and future increases in ECB interest rates as factors that could act against whatever positive effect the NAMA transfers are supposed to have.

The World’s Slowest Recap: A Cunning Plan?

I think it is widely agreed that undecapitalised banking systems saddled with bad loans are a threat to the efficient functioning of the economy. I think it’s also widely agreed that, whatever the mechanism, the goal of any banking plan is to return the sector to a healthy well-capitalised condition.

Given that, I find it very disappointing that eighteen months after the Irish banks were thrown into crisis and at least a year since it was clear that losses threatened the solvency of the banks, we are still taking our time getting the banks recapitalised.

Continue reading “The World’s Slowest Recap: A Cunning Plan?”

Today in LTEV Mysteries

Ok folks, let’s have a competition. According to page 3 of this document, we’re paying €8.5 billion for the first tranche of loans, which are backed by property with a calculated long-term economic value of €10.5 billion. First person to provide full details of how exactly this works gets a copy of the old NAMA protest article signed by all 46 guys. Should be worth a fortune in years to come. Zhou is doing trojan work on this right now and has been installed as odds on favourite by Paddy Power.

Super Tuesday Leaks

Tomorrow we should finally see a resolution of much of the uncertainty that has been hanging over the Irish banking system. We are being told that the estimated prices for NAMA transfers will be announced, as well as the capital requirements set by the Central Bank and the new legal framework for the Central Bank and Financial Regulator.

With the news so soon to be released, there is little point in me speculating as to what is going to happen. What I would flag, however, is that there is something of a disconnect between two sets of statements doing the rounds in today’s media coverage.

First, there has clearly been widespread leaking that the NAMA loan transfers will see some banks taking considerably larger writedowns than had previously been expected. For instance, in the Irish Independent, Emmet Oliver writes that “AIB is set to be hit with a discount of up to 40pc”.

Second, much of the coverage mentions the idea of the state owning 70 percent of AIB and 40 percent of BoI. See, for instance, here and here. And note that Emmet Oliver’s full sentence is “AIB is set to be hit with a discount of up to 40pc, making majority State control all but inevitable” and he mentions the Minister’s “plan to take a 70pc stake in the lender.”

The disconnect is that these two sets of figures don’t seem to add up. There is nothing new about the idea of the state potentially owning 70 percent of AIB. Even based on previous expectations for NAMA discounts, this was always a possibility. For instance, I’m looking now at a Davy stockbrokers report from April of last year that projected a base case of the government owning 78% of AIB.

However, it is hard to reconcile the continuing circulation of the same ownership statistics as before with the new information (if such it is) on discounts and also on capital levels.

To give a concrete example, AIB’s annual report says that it had €9.5 billion in core equity capital at the end of 2009. This included the government’s €3.5 billion in preference shares (this isn’t core equity in my book, or most people’s, and it is likely to be converted to ordinary equity.) So that leaves €6 billion in private core equity capital. AIB is supposed to be transferring €24 billion in loans to NAMA. Forty percent of €24 billion is €9.6 billion.

So, do the math on this and you’d probably come to a different conclusion about ownership percentages than have been flagged by the media. One way or another, we’ll find out tomorrow, but today’s leaks are confusing, perhaps deliberately so.

Update: This post should have been clearer that AIB’s annual report already allows for €4.1 billion in provisions for losses on loans going into NAMA. So the calculations would involve an additional €5.5 billion in losses over and above that. With half a billion in equity capital and the need to get up to a core equity ratio of eight percent, the 70 percent state ownership doesn’t add up. Still, perhaps I’ll see tomorrow how it’s going to add up and still end up with the 70 percent outcome.

Back to the Future: NAMA Freezes Prices at November 2009

Today’s Sunday Times carries an important story from Sarah McInerney and Stephen O’Brien. Many people had been thinking that the market valuations applied to loans being transferred to NAMA would be less than had been assumed a few months ago because property prices are still falling.

However, it turns out that this isn’t necessarily the case. In an answer to a Dail question from Fine Gael TD Deirdre Clune on March 10, Minister Lenihan said the following:

Section 73 of the NAMA Act sets out that NAMA may set a date by reference to which the market value of a bank asset or property is to be determined. NAMA have set this date as 30 November 2009. It follows that any property decreases or increases after 30 November 2009 will not be reflected in the NAMA market valuations.

So, NAMA no longer cares about the current value of the assets it is acquiring. Even though no assets have yet being transferred and the transfers will take place in a drip-drip fashion over the next year or so, NAMA will not bother calculating the actual market valuations for these assets. Instead, NAMA is adopting a Marty McFly approach to asset pricing: Let’s just go back to November 2009, when things weren’t quite as bad as they are now.

This decision raises a number of questions:

  1. Who made this decision? The Sunday Times indicates that Minister Lenihan has made this decision. The Minister’s Dail answer suggests that “NAMA have set this date.”  So was this a political decision or one made by a NAMA official? Since the figures for asset transfers are so huge, even relatively modest changes in property prices since November 2009 would result in a reduction of billions in the amount of taxpayer money being used to acquire these loans. When a decision of this magnitude is made, the public deserves to know who made it and to have the rationale explained.
  2. When was this decision made and why was it announced in such a low-key fashion that it wasn’t reported in the national media until eleven days later? NAMA’s webpage contains plenty of material. Why wasn’t this decision explained?

As regular readers will know, I have always been sceptical of the NAMA pricing process. We have known from the start of this process that transfer prices close to what these assets are really worth will result in the banks being insolvent and probably being nationalised, an outcome that the government has consistently stated that it does not want. So, even before the details of the bill was released, there were clear signals that the process was unlikely to ever really be about finding the true value of these assets and more likely to be about paying a high enough price to prevent insolvency.

However, the strictures of the European Commission have required a formal approach based on paying market value plus a potential LTEV adjustment. And falling market prices have had the potential to drive the banks into insolvency, even under LTEV pricing.

This appears to be where the November 2009 decision comes in. At one stroke, falling prices in the current market don’t matter. With one leap into the silver DeLorean (an Irish car!) we no longer need to worry about trivialities like what the assets we’re acquiring are actually worth. And sure nobody will notice if we barely tell them.

Finally, I note from the Sunday Independent that part of the reason for the delay in the transfer of assets is that “At least two institutions are said to be digging in their heels on the valuations.”

So here we are, an asset sale with only one buyer, acquiring assets from sellers who are insolvent if the assets are sold for their market value. However, the buyer has committed to paying the sellers more than market value. And rather than being grateful, the sellers are “digging in their heels” on valuations. You couldn’t make it up.