The Irish government rightly wants out of Bank of Ireland. That does not mean the sector offers no opportunities. Confident that an Irish economic recovery can continue, the finance ministry announced on Wednesday that it would begin selling down the government’s 13.9 per cent stake. Traders predictably marked down the shares as much as 6 per cent, though the price recovered as the day wore on.
The prospect of reduced competition and consolidation should boost investor confidence. Legacy government stakes in Bank of Ireland and rivals Allied Irish Bank and Permanent TSB follow bailouts after the 2008 financial crisis. Low interest rates and tough regulation have depressed returns for foreign entrants KBC of Belgium and the UK’s NatWest. They have chosen to leave.
The government’s timing is linked to a rally in local bank share prices, up about 40 per cent this year. The government aims to sell up to 15 per cent of aggregate trading volume over the next six months. Trading volumes so far this year suggest that the government might manage to sell about 60m shares of the 150m held. This potential supply no doubt weighs on the valuations of AIB and Bank of Ireland. Both trade at just over half book value.
But look through the supply overhang and the resulting, more concentrated market bodes well for all three incumbents. KBC will divest its €9bn performing loan portfolio to Bank of Ireland. NatWest will wind down Ulster Bank with an initial €4bn loan portfolio sale to AIB. Expect further deals.
Moreover, after last year’s global market rally, the universal bank model has returned to fashion. Ireland’s largest stockbroker Davy is up for sale and should fit well within Bank of Ireland. Already AIB plans to buy its rival Goodbody. Watchdogs have relaxed a ban on bonuses to facilitate the AIB/Goodbody deal, a sign of their increasing flexibility.
As Irish bank returns on equity recover, towards high single digits by 2023, expect the sector’s lowly valuation ratios to rise. For patient bank investors, there is value in the Irish sector.