Who Owns Senior Irish Bank Bonds?

I’d like to pass on a few comments on the question of who owns senior Irish bank bonds, an issue that has been discussed on a number of occasions by Seamus Coffey from UCC.

Here’s a nice chart from Seamus’s blog using data from Table 4.2 of the Central Bank’s Money and Banking statistics. The chart shows that when the September 2008 guarantee was put in place, only €23 billion of the €97 billion in outstanding bonds of the covered banks were classified by the Central Bank as being held by Irish residents while today that share is €50.7 billion out of €77.6 billion.

There are a number of reasons why one should be careful in interpreting these statistics.

First, as I understand it, the Central Bank don’t keep track of secondary market activity in these bonds and so don’t actually know who the current owners of these bonds are. The estimates are largely based on the first holder of the debt when it is issued.

Second, in some cases, the “holder” is a trustee that manages the debt issuance and the subsequent payment streams on behalf of the issuing bank. So, for example, if an Irish bank issues debt that is held by an Irish resident firm Custodian Plc who manage the payment streams, but the ultimate beneficial owner of the debt (who ultimately gets the coupon payments, etc.) is a German pension fund, then the Central Bank statistics will report the debt securities as being held by Irish residents.

Third, much of the €50.7 billion currently deemed to be held by Irish residents is stuff like “own-use” bonds guaranteed by the Irish government. If, however, one is debating the question of failing to pay out on unguaranteed bonds, then you are generally talking about bonds issued prior to September 2008 and these are largely classified in these statistics as “foreign resident” bonds.

Finally, this may be obvious but it’s perhaps worth pointing out that the fact that some of these bonds may be owned by Irish residents is hardly a sufficient justification for using taxpayer funds to redeem them, rather than letting the pension funds or private citizens lose money on a bad investment.

To be honest, the fate of senior Irish bank bonds is probably generating more heat at this point than it should. It seems to me that there is no chance of the government adopting a policy of failing to pay out on AIB or Bank of Ireland’s senior bonds, so what is genuinely at debate is the roughly €4 billion or so in senior bonds outstanding at Anglo and Irish Nationwide. For what it’s worth, I suspect that most of these bonds are currently owned by international hedge funds and distressed debt desks of investment banks. So far, their investment strategy has been working out really well.

In relation to the cost of the banking bailout, an issue that may loom larger in the future than senior bonds is the policy the Irish government should adopt in a potential sovereign default situation to future payments on the Anglo and INBS promissory notes, keeping in mind that their major creditor is a certain Frankfurt-based institution.

U-Turn on Bondholders?

Today’s newspapers contain stories that the government are denying any U-turn in relation to previous commitments on bondholders.

“We have not broken our word,” Mr Noonan said, arguing that all election promises were predicated on agreement being reached at European level.

He said that since the banking crises had emerged Fine Gael had been in favour of burden-sharing and said that it has already happened with subordinated debt.

“We want burden-sharing but we would not do it unilaterally. We would only do it with the agreement of Frankfurt and we did not get it,” he told RTÉ.

“The ECB in Frankfurt has held out solidly that senior bondholders will not be touched. It’s a majority view in Frankfurt. There are governors in Frankfurt who do not hold that view.”

He said the ECB had been “very good to Ireland”, providing almost €200 billion in liquidity. He also added that the Government was reserving its position in relation to Anglo Irish Bank.

He said if Anglo told the Government there was a need for more capital the Government would enter discussions with the ECB on burden-sharing in respect to senior bonds in that institution. But he agreed the Government would not be pushing for renegotiation on senior debt in either AIB or Bank of Ireland.

“The debate is over. Frankfurt would not agree,” he said.

Well let’s take a look at Fine Gael’s banking policy document “Credit Where Credit’s Due”. Pages 5 and 6 list a set of options that Fine Gael wished to pursue for “a more credible, fairer package that is better for Ireland and Europe.”

These options included extending the EFSF “to take equity and long-term debt investments in systemically important European banks, such as AIB and Bank of Ireland”, EU-funded insurance schemes, procedures for restructuring debts of troubled banks, and “a more sustainable funding solution for the Irish banks.”

Page 6 then tells us that

Should some credible, combination of these options prove not be available from Europe, the next Irish Government would – in order to restore its own credit worthiness – be left with little choice but to unilaterally restructure of the private debts of those Irish banks in greatest need of recapitalisation.

Well, none of these options have been made available. And yet rather than unilateral restructuring, we’re told “The debate is over. Frankfurt would not agree.”

Looks like a U-turn to me.

Irish Times Needs Better Sources

Prior to today’s announcements, the Irish Times were flagging the following:

Mr Noonan will make a “watershed” argument for a EU-wide solution around passing bank losses on to bondholders in response to the tests on Bank of Ireland, AIB, Irish Life and Permanent and EBS building society. Government colleagues last night described it as the first radical policy departure from the previous Fianna Fail-led government.

A few months ago, just prior to the announcement of the EU-IMF agreement, the Times had reported:

The source said there was a “common understanding” between delegations from the EU Commission, the European Central Bank and the IMF that senior and junior bondholders should each pay a share of the rescue costs.

Two conclusions to draw from this. First, people shouldn’t pay much attention to the Irish Times reports on these matters. Second, the Times need better sources.

New IIEA Blog\Post on Bank Debt

I’d like to flag an excellent new initiative that our readers are likely to find useful. As many of you know, the Institute for International and European Affairs has played a very important role in recent years in promoting debate on European issues. The Institute has now started a blog focusing on European topics which already has a lot of interesting material. I have agreed to contribute some longer pieces there.  They’ve promised to make me some pretty graphs if I ask nicely which might make a nice change sometimes from the no-frills approach we adopt here at the IE blog!

Which brings me back to an issue related to my proposals for a debt-to-equity swap for central bank loans. Some commenters have rightly pointed out that this proposal seems to give up on burden sharing with bondholders. That it does so is just a reflection of the current EU position on this issue. However, this strengthens the case for the EU becoming involved in owning the Irish bank sector: If they want the bondholders paid back so badly, then one can argue that they should contribute some of their own funds to the effort.

But coming back to the European debate on bank debt, I think the EU officials are adopting the wrong approach to dealing with this issue. I also think that the proposals adopted by the European Commission to allow haircuts on bonds that are issued in the future, say after 2013, is unworkable. For a discussion of this and an alternative approach, see this post at the IIEA site.

Donal O’Mahoney on Senior Bank Bonds

His article in today’s IT is here.