Ireland’s two largest banks’ – both significant providers of asset finance – will see an increase in their non-performing loans in the coming quarters as support measures during the pandemic come to an end, Fitch Ratings said.
However, the rating agency expects asset quality deterioration to be much less severe than in the aftermath of the 2008 financial crisis.
AIB Group Plc (Allied Irish Banks) reported a gross non-performing exposure ratio of 7.3% at end-2020, up from 5.4% at end-2019. Bank of Ireland Group‘s ratio rose to 5.7% from 4.4%.
The increases for both banks were partly due to a change in the definition of defaults and did not reflect a real underlying credit deterioration. Loan-loss coverage levels generally strengthened across loan classes, mitigating the higher non-performing exposures ratios.
The vast majority of payment holidays finished by end of February 2021, and in over 85% of cases, borrowers had returned to pre-pandemic payment arrangements – a level well above banks’ initial expectations.
Fitch said it believes this reflects the unprecedented level of government support channelled to individuals and businesses during the pandemic. Ireland’s various support schemes, including unemployment and other subsidy schemes for individuals as well as grant schemes for businesses, amounted to nearly 20% of gross national income.
Businesses were also supported by widespread rent and tax deferrals. Cash accumulated by borrowers has led to a big increase in banking sector deposits (€13bn in January to November 2020), which has supported debt servicing since the end of the payment holidays.
Irish banks reported material increases in Stage 2 exposures in 2020 across their corporate and SME portfolios, particularly from the hospitality and retail sectors, and also in their property and construction books. These increases signal a significant rise in credit risk due to the pandemic. Stage 2 exposures for the two largest banks represented on average 18% of their gross lending at end-2020, nearly three times the level at end-2019.
AIB Group and Bank of Ireland Group consider it a priority to operate with impaired loan ratios at a low single-digit percentage. AIB Group has a medium-term non-performing exposure ratio target of about 3%. The two banks have tested frameworks for dealing with stressed assets, which should help the resolution of new problem loans. They also plan non-performing exposure portfolio disposals through securitisations and sales to help achieve their targets, according to Fitch.
AIB Group recently announced the sale of a €600m non-performing long-term default portfolio, consisting largely of owner-occupied homes. This is the first meaningful non-performing exposure transaction in Ireland since the start of the pandemic. The sale follows a €150m disposal by the bank earlier this year to an ethical investment consortium. The two sales would reduce AIB Group’s proforma gross non-performing exposure ratio to 6%. Bank of Ireland Group is also considering non-performing exposure disposals, focusing on its Irish mortgage portfolio.
Irish banks significantly frontloaded their pandemic-related expected credit costs in 2020. This resulted in reported net losses but should lead to lower credit charges for 2021. Nevertheless, we expect loan impairment charges to be above normalised levels this year as banks continue to adjust their provisioning to reflect actual impaired loan flows, and potentially strengthen it to support non-performing exposure disposals.
Businesses’ take-up of state-guaranteed lending through Ireland’s €2bn credit guarantee scheme has been extremely low (0.2%) and is unlikely to increase significantly. This means banks in Ireland will be less protected than those in other jurisdictions that have made greater use of state-guaranteed loans during the crisis.