November 30, 2014    6 minute read

Bank of Ireland – Passing the ECB Stress Test and Beyond?

   November 30, 2014    6 minute read

Bank of Ireland – Passing the ECB Stress Test and Beyond?

Bank of Ireland – Passing the ECB Stress Test and Beyond?

With the news just under one month ago that the Bank of Ireland had passed the European Central Banks stress test, Cyril Roux, deputy governor of the Central Bank of Ireland, stated that the strict and comprehensive examination, “shows that progress has been made in recent years to stabilise and rebuild the banking sector in Ireland.” But what exactly does this mean for potential investors? Is the Bank of Ireland a sound investment?

About the Company

The Bank of Ireland and its subsidiaries provide a range of banking and other financial services. The Company operates in five segments: Retail Ireland, Bank of Ireland Life, Retail UK, Corporate and Treasury and Group Centre. Group Centre includes capital management activities, unallocated Group support costs and the cost of the Credit Institutions. Retail Ireland distributes a range of financial products and services through the Bank’s branch operations in the Republic of Ireland and through its direct channels. The Company operates in the life and pensions market in Ireland through its wholly owned subsidiary New Ireland Assurance Company plc (NAIC). Retail UK consists of Business Banking in Great Britain and Northern Ireland, the branch network in Northern Ireland, the United Kingdom residential mortgage business and the business activities with the United Kingdom Post Office. Corporate and Treasury division consists of Corporate Banking, Global Markets and IBI Corporate Finance.

A Great Long – Term Investment?

On the 26 November 2014 Patrick Honohan, Governor of Ireland’s Central Bank, stated that he would like to see the international ownership of Ireland’s banks. Mr. Honohan told a parliamentary committee that his dream was to see a cross – Europe banking system, which would see banks in countries such as Ireland owner by the larger industry players. Indeed, the appetite of international banks for involvement in peripheral countries such as Ireland has been greatly diminished over the past couple of years – largely due to their own problems. However, with the Bank of Ireland passing the stress test with flying colours and the Irish Central Bank discussing increased international ownership of its banks, the future may be bright for this industry in this region. Indeed, an investment in the Bank of Ireland may be an astute buy in the long term.

The stock has performed well since the announcement of the ECB stress tests and I believe this will continue for a number of reasons. The ECB’s examination will have undoubtedly have gone some way to restoring investor confidence in BKIR, and we may see a stream of investments as many try and get in at a good time. The BKIR Management Statement for the third quarter also gives hope for growth. The statement discusses how, ‘the positive outlook economic environment in our key markets of Ireland and the UK has, amongst other things, benefited collateral values and new business origination.’ It is vital here to note that the Bank of Ireland conducts much of its business in the UK – this may shelter it somewhat from a worsening situation in the Eurozone, and differentiates it from a number of the other Irish banks that passed the ECB stress test. The lender also states that it continues to add capital at a fast rate:

“The Group continues to generate capital at a significant pace with a further increase of 90bps in our transitional Common Equity Tier 1 (CET 1) ratio during the third quarter to 14.1% at the end of September 2014, compared to 13.2% at the end of June 2014 and a pro-forma ratio of 12.3% on the 1 January 2014.”

This increase in the Bank’s capital ratios has been attributed to trading performance, a more efficient capital structure in the Bank’s life assurance subsidiary, and a reduction in risk weighted assets, and once again point to positive growth for the stock. The Bank also reported that the value of defaulted loans on its books is down (€1.9 billion from 30 June 2013 to a level of €16.4 billion at 30 September 2014). This will undoubtedly bring more confidence as the bank has mitigated a large degree of its greatest risk and this is a positive move that should be of benefit to potential investors in this stock.

The Eurozone Crisis – Too great a risk?

Nonetheless, it must be remembered that the Eurozone is in crisis and having somewhat of a tumultuous time, and any investment in the Bank of Ireland shall carry this significant risk. The European Union and European Central Bank have also recently urged Ireland to continue to cut its budget deficit, just weeks after the Irish government had signalled to voters that the era of Irish austerity was for now over. However, on the whole I would regard an investment in this stock to carry much promise in the long – term. This is despite Ireland becoming the first country to exit a bailout programme from the European Union, European Central Bank, and International Monetary Fund last year. Ireland is also forecasting the highest rates of growth in the Eurozone this year. However, the European Union and the European Central Bank, the bodies that continue to hold joint monitoring operations twice yearly, have stated that although Ireland is forecast to meet its target of a budget deficit of below 14% for 2014, the Irish government should consider further tax increases or spending cuts.

Bank of Ireland – To buy or not to buy?

The outlook for the Bank of Ireland is favourable. The Bank also passed the ECB stress test with flying colours, and there may be a vision in the Irish government of long – term investment in the Irish banking sector by major international players. The fundamentals of the stock are good with a current P/E Ratio of 110.0 and a 1-YR Return of +15.38%. Taking all these factors into account, the stock with much opportunity in what is an underperforming sector; the continued Eurozone crisis may also bring excellent buying opportunities and as such, this is a stock to include in a diversified portfolio.

 

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