On Saturday, March 14th, two days after Taoiseach Leo Varadkar announced the closure of schools and called for outdoor mass gatherings to be cancelled to help contain Covid-19, Bank of Ireland chief executive Francesca McDonagh and a handful of others joined on a call with the head of a major bank in Italy.
At the time, Italy was the European epicentre of the outbreak and, days after becoming the first country in the world to go into full lockdown, its virus cases topped 21,000 and related death toll neared 1,450. By contrast, the Republic had 129 confirmed cases and two deaths.
“They were really in the eye of the storm at that stage and arguably three or four weeks ahead of us in terms of the timeline and he talked about what they were doing,” McDonagh told The Irish Times this week, as she recalled the moment when the scale of the impending crisis hit home. She declined to name the Italian banker.
"He talked about Perspex screens in branches, having so many people working from home, and other issues. I called the Department of Finance immediately after. I'm sure they had their own connections, but I wanted to share what I was hearing from a banking counterpart and that we needed to take action."
Bank of Ireland and other lenders in Ireland had been working on contingency plans from February as the virus spread from China to Europe. And the industry allowed people with children or caring responsibilities to work from home after the Taoiseach delivered his speech in Washington.
But planning went into overdrive that weekend and into St Patrick's Day as banks worked on the financial plumbing surrounding a State unemployment refund scheme as well as the streamlining of initial requests for payment breaks from distressed borrowers, ways to provide emergency working capital to companies, and logistics around keeping most branches open.
On Friday, March 20th, a week before Mr Varadkar announced a general lockdown, McDonagh's chief people officer, Matt Elliott, sent an email to the bank's 10,500 staff, telling anyone who could work from home to do so from the following Monday.
Initial assessment
This week, the State’s banks, still baring the scars of the financial crisis, gave an initial assessment of the damage caused to the sector as the coronavirus continues to wreak havoc on health systems and economies globally. It has eclipsed a host of problems – including an income squeeze from lower-for-longer interest rates, concerns over Brexit and a dysfunctional housing market – that had long had Irish bank shares trading at a discount to European peers.
The AIB, Bank of Ireland and Ulster Bank set aside more than €500 million of initial loan impairment charges in the first quarter of the year as they eye an expected surge in bad loans. Bank of Ireland and AIB see gross domestic product (GDP), originally projected to grow almost 4 per cent this year, contracting 7.5-8 per cent this year, and unemployment averaging 13.5 per cent.
The loan charge sent the industry into a loss-making quarter for the first time since 2013 – an era when the Republic was still a ward of the bailout troika comprising the EU, International Monetary Fund and European Central Bank.
While the mortgage-focused Permanent TSB and KBC Bank Ireland scraped out small profits for the quarter as they held off taking large Covid-19 provisions, they warned that charges will rise as the year progresses.
Still, banks and analysts stressed this week that the five lenders – which required more than €48 billion of bailouts from Irish taxpayers or overseas parents – have enough capital reserves to weather the storm.
The bank trading statements “served to highlight the strength of their balance sheets which is a positive in sharp comparison with the last crisis”, said Noel O’Halloran, chief investment officer at KBI Global Investors in Dublin. “They also served, however, to spotlight the myriad of challenges facing the banks and how their earnings outlook for the remainder of the year is pretty grim.”
Volatility
Bank of Ireland accompanied news of a €266 million impairment charge by taking a €120 million hit as volatility in the stock and bond markets affected customers’ life and pension portfolios and forced it to mark down expected future fees.
It also said that new lending – including mortgages – may slump as much as 50 per cent this year, while business income could drop by up to 40 per cent as uncertainty reigns over the future path of the virus and the pace at which economies can be rebooted.
Banks in the Republic had only returned to loan book growth in the last year or so after a decade of sharp contraction. Because they are focused on retail customers and small to medium-sized businesses (SMEs), they have not benefitted like major European banks from big corporates drawing down large credit lines in recent months to boost their cash levels.
The scale of the forecast drop on business income, spanning current account charges to wealth and insurance fees, is also deeper than other European banks have been reporting.
"Irish banks are more reliant on activity-based fees than banks across Europe," said Diarmaid Sheridan, an analyst with stockbrokers Davy.
“Areas such as wealth management are far less important [for Irish banks]. Current account related fee income is much more reliant on activity in Ireland, which has fallen substantially since the lockdown as usage of ATMs and credit cards has fallen and foreign exchange income has fallen away.”
The loan impairment charges taken so far are a result of banking chiefs taking a big-picture view of risks in their portfolios at a time when many industries are shuttered and more than one million people in the Republic have either been made jobless because of the pandemic or need their wages to be subsidised by the State.
Hotels, bars, restaurants, motor, non-food retail, and the leisure and transport industries have taken the biggest initial hit from lockdown restrictions. AIB highlighted on Tuesday that it has €6.6 billion out on loan to sectors that have been highly affected by Covid-19 – equating to 11 per cent of its total loans.
Deep dive
The initial scale and pace of the Covid-19 crisis has not yet seen a spike in bad debts, as tens of thousands of payment breaks offered to households and businesses are not yet counted as loans at risk of default. But the banks are preparing to take a deep dive into their loan books in the coming months to work out which loans that are currently subject to temporary breaks of up to six months are unlikely to return to normal repayments at the end of September.
It won’t be easy.
"No one really knows what the effect is going to be. If you tell a [forecasting] model unemployment is 28 per cent, it's going to go nuts and throw out strange numbers," AIB chief financial officer Donal Galvin said on Tuesday, adding that "no model is able to understand" the offsetting effects of extraordinary Government supports.
While the Republic is taking tentative initial steps to emerge from hibernation next week, as builders return to sites and some retail and garden centres open their doors, it may be later this year before a clearer picture emerges.
“A second wave of infection and associated shutdowns can’t be ruled out,” said McDonagh. “And the timescale for the development and rollout of a vaccine is uncertain.”
Analysts and bankers say Government supports for businesses will be key.
While the Government announced plans earlier this month for a €2 billion credit guarantee scheme to underpin lending to SMEs and a €2 billion equity investment plan for medium and large groups, these will require the formation of a new government and enabling legislation.
"The SME sphere, that's where the battle really has to be won to get economic activity started," said KBC Bank Ireland chief executive Peter Roebben.
KBC’s view that Irish GDP contracts 5 per cent this year, the most optimistic among the banks, assumes SMEs will be supported and multinationals will cushion the economy as during the financial crisis.
Meanwhile, regulators will be pressing banks to use the breathing space from the Covid-19 loan payment breaks to work with customers with longer-term problems.
“I can see the headwinds but I can see where the tailwinds are going to be as well,” said Galvin at AIB. “It’s possible in these time when we are working from our bedrooms to be particularly pessimistic.”
Irish mortgages: As the market goes, so go the banks
The Irish banking sector’s massive retrenchment in the past 12 years has seen them become even more exposed to one area: the Republic’s mortgage market.
Bank of Ireland, AIB and Permanent TSB, in which taxpayers own major stakes, saw their combined loan books halve to €159 billion between 2008 and 2019 as they shifted toxic commercial property loans to Nama, offloaded non-core overseas businesses, scaled back funding of large corporations, and sold non-performing loans.
In the process, their mortgage portfolios grew from 26 per cent of total lending to 42 per cent.
The legacy of the arrears crisis that Irish banks went through means they have to hold more expensive capital against home loans than most other countries in Europe – contributing to Ireland’s well-above-average home loan rates.
The pace of growth in mortgage lending has consistently come in below expectations in recent years, with activity rising 9 per cent in 2019 to €9.5 billion.
It’s well off the €13 billion to €15 billion level that is seen as a normalised market and dulled by housebuilding falling well below demand for the best part of a decade, Central Bank lending restrictions and, more recently, concerns over Brexit.
Now Covid-19 has raised its ugly head, forcing builders to temporarily down tools and many potential buyers to hold back.
Approvals
Banking & Payments Federation Ireland (BPFI) data last week showed home loan approvals fell by 10 per cent in March as lockdown restrictions began to kick in. Bank of Ireland, which accounts for more than a quarter of the mortgage market, said on Monday its applications and home loan drawdowns were running 50 per cent lower in April than in the first three months of the year.
This is mostly demand driven, but banks have also become more cautious.
Most have suspended the use of exemptions to Central Bank lending rules, and some are withdrawing loan offers if would-be borrowers’ incomes have been hit by Covid-19 or their employers are availing of the Government’s temporary wage subsidy scheme.
Property consultancy Knight Frank estimated recently that new home completions will fall between 25 per cent and 40 per cent from the 21,241 units delivered last year, depending on the rate at which builders, who are preparing to start returning to work next week, can get back into action.
KBC Bank Ireland sees house prices falling 12 per cent this year before rallying 8 per cent in 2021.
Meanwhile, AIB chief financial officer Donal Galvin has all but written off the second quarter for the mortgage market, noting that analysts are now predicting full-year new lending will fall to about €6 billion from a previously-expected €10 billion-€11 billion.
