‘Incredibly Cheap’ Irish Banks Gain as State Readies Loan Plan

By Ian Guider and Dara Doyle

June 22 (Bloomberg) -- Irish bank stocks, the biggest losers in Europe in the first quarter, have been the best performers since March as investors bet the government will rescue the lenders without punishing shareholders.

Dublin-based Bank of Ireland surged 14-fold in Dublin trading after falling to a record low of 12 cents on March 5. Allied Irish Banks Plc jumped 641 percent in the same period, while the Bloomberg Europe Banks and Financial Services Index rose 82 percent.

Irish banks may gain further should the government swallow most of the losses on the lenders’ souring property loans, as seems increasing likely, JPMorgan Chase & Co. analysts said in a research note on June 17. Irish Finance Minister Brian Lenihan will lay out plans for a so-called bad bank, known as the National Assets Management Agency, by the end of the month.

“A favorable NAMA outcome is likely to drive another leg of share price appreciation for Irish banks,” JPMorgan analysts Ignacio Cerezo and Andrea Unzueta said in the note. They rate Dublin-based Bank of Ireland and Allied Irish “underweight.”

Ireland’s banking system came close to collapse as the real estate market cratered and credit markets froze. The economy shrank 2.3 percent in 2008 and may shrink by about 12 percent in the three years through 2010, the fastest contraction for an industrialized economy since the Great Depression, the Dublin- based Economic and Social Research Institute said in April.

Irish house prices, which quadrupled in the decade through 2007, are falling at a record pace. Commercial property values tumbled 37 percent in 2008.

‘Horrific Problems’

The ISEF index of Irish financial stocks plunged 91 percent over the past two years. Even after the rebound from record lows, Bank of Ireland trades at 0.26 percent of book value, and Allied Irish at 0.22 percent. That compares with a price-to-book ratio of 0.86 percent for Bloomberg’s European banks index.

“Ireland has horrific problems,” said Stewart Higgins, head of European equities at Martin Currie Asset Management in Edinburgh. “But the valuation is so incredibly cheap.”

Some investors said further gains are unlikely given the state of the nation’s economy. Irish gross domestic product will shrink by 7.7 percent this year, according to government forecasts. Moody’s Investors Service put the ratings of four Irish banks on review for possible downgrade on June 5.

“It’s hard to see what could drive the shares on from here,” said James Forbes, senior equity strategist at Irish Life Investment Managers in Dublin. “There is still the issue of funding for the two major banks and it’s also prudent to assume that economic conditions in Ireland are going to lag a global recovery as higher taxes impact consumer spending.”

Buying Bad Loans

Headed by interim Managing Director Brendan McDonagh, NAMA will buy, at a discount, real-estate loans with a face value of as much as 90 billion euros ($126 billion) from banks. The smaller the discount, the less pressure banks will face to book losses on the loans and raise more capital from the government.

The agency will take a “long-term economic valuation” approach in pricing the loans, Lenihan, 50, told a parliamentary committee on May 26. He nationalized Anglo Irish Bank Corp. in January, and shored up Allied Irish and Bank of Ireland with 7 billion euros of capital. In return, the government got 25 percent voting rights in each bank, and warrants allowing it to buy corresponding stakes at reduced prices.

Lenihan said in May that Bank of Ireland may not need additional state funds, while he hadn’t reached any conclusion on Allied Irish.

‘Bulls in the Ascent’

“One camp says the government will come up with a shareholder friendly solution,” said Abigail Webb, a London- based analyst at Credit Suisse Group AG who has an “underperform” rating on the two banks. “And there’s the other camp which finds it difficult to make the numbers work for shareholders. I remain cautious on the ultimate outcome, but the bulls are in the ascent at the moment.”

Bank of Ireland will take a 2.7 billion-euro loss on the 17 billion euros worth of loans going to NAMA, estimated Davy, Ireland’s largest securities firm. Allied Irish Banks faces a 6 billion-euro hit on the 30 billion euros of loans it will transfer to the agency, Davy estimated.

A minority of analysts advised investors to buy the banks’ shares during the past three months. Bank of Ireland has three “buy” recommendations from analysts, compared with six “sell or reduce” and eight “hold” ratings, data compiled by Bloomberg show. Allied Irish has five “buy” ratings, five “sells” and seven “hold” recommendations, the data show.

“It might be a bit early to say they are emerging from the crisis,” said Sebastian Orsi, an analyst at Merrion Capital in Dublin, who recommends investors buy Bank of Ireland. “But the share prices are reflecting a better chance of survival now than they would have had over the last few months.”

To contact the reporter on this story: Ian Guider in Dublin at iguider@bloomberg.net.