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Why Irish Mortgage Margins Are Competitive!
Crying fake news is not the preserve of the outgoing US President, Donald Trump. Twice I've read in the Irish printed media in as many months that Irish people applying for mortgages are being ripped off by unjustifiably high mortgage rates in this country.
It's a populist line that resonates easily with an audience not well disposed towards the banks in the first place. However, such criticisms are at odds with the facts and do not stand up to scrutiny.
In Ireland, unlike in a number of EU countries, there are no upfront costs levied by banks in processing a mortgage. In some EU countries there is a bundling of services with cross selling opportunities often subsidising lower mortgages rates. This is not permitted in Ireland.
The volumes of mortgage lending in Ireland are far lower than in some larger EU economies, which means that the Irish banks can't obtain the benefits of scale, as many larger European banks can.
And due to the greater level of losses suffered following the crash in Irish property prices post the Global Financial Crisis in 2008, under European regulations the Irish banks must hold more capital per mortgage than elsewhere in Europe. This raises their cost of capital.
Direct regulatory costs and the bank levy are the highest in Europe as a proportion of Irish banks' earnings. In addition, it's extremely difficult to get a repossession order on a defaulting mortgage in Ireland, which increases the risks of lending to Irish consumers and, again, the banks' cost of capital.
Mortgage lending is a commodity-type product with little opportunity for banks to differentiate their offerings. Healthy competition alone, which we have in Ireland, is normally sufficient in commodity markets to ensure that the consumer gets the best price (interest rate).
One doesn't see European banks queuing up for a share of the Irish mortgage market most likely because they understand that our mortgage market offers slim pickings.
Even in the absence of the provisioning required for likely Covid-19 related loan losses, Permanent TSB is not generating sufficient returns on its shareholders' capital to even pay a dividend. After much cost cutting and reinvesting in technology upgrades AIB Group may earn a pre-tax return of just 5-6% on its shareholders' funds by 2022.
In fact, so disillusioned are investors in the earnings prospects of the Irish banks, and indeed the EU banks in general, that banks' share prices have been trading at massive discounts to the value of their shareholders' capital (balance sheet values).
As Permanent TSB proved recently, when it sold off a substantial loan portfolio at the balance sheet value, the Irish banks are worth substantially more in liquidation than in operation. In other words, professional investors think the Irish banks are earning too little, not too much.
Criticism of the Irish banks might be better aimed elsewhere. In preparation for this article, I made enquiries with four Irish mortgage providers and got a 'No' from all four for the following mortgage request; a late-20s married couple with a 40% deposit, both working (engineering and hospitality industries), although temporarily receiving partial Covid-19 support payments.
In my view, the above mortgage application is a very low-risk one. This couple's earnings capacity is likely to rise substantially from here given their age profiles. And the couple's 40% deposit is a huge margin of safety against falling house prices.
In addition, the 2020 economic scenario is very different than in 2008. Residential house prices may be expensive in the capital now relative to history and average incomes, but they have not been fuelled by debt.
Assessing mortgage applications and risk on the basis of a temporary Covid-19-led hiatus is tantamount to not understanding how to lend in the first place.
If I was to start again, I think I'd come back as a mortgage provider. It looks like shooting fish in a barrel. The banks have all moved over to the 'bear-no-risk' side of the game leaving a huge part of the potential mortgage market wide open.
While the shortage of new housing supply in Ireland is stifling economic growth, the banks, too, are guilty of restraining economic growth by not providing essential credit, the core reason why they exist in the first place.
11th November 2020