Bank of Ireland moves to reduce credit risk

Bank of Ireland’s core tier one capital has taken a marginal hit as it reassessed the quality of its mortgage book and took out an insurance policy against future losses.

The bank announced the transactions in a release to the Irish Stock Exchange yesterday.

Bank of Ireland has undertaken a credit risk transfer in relation to roughly €3 billion of loans from its corporate and business banking units. The transaction will reduce the bank’s credit risk exposure to these loans through a €185 million credit default swap, which will cost €21 million in annual interest payments.

The move is expected to benefit Bank of Ireland’s core tier one capital by 50 basis points. Core tier one capital is the amount of regulatory capital banks are required to hold to cushion against future potential losses.

The bank said in a statement: “The transaction reduces the group’s credit risk exposure, and consequently the risk weighted assets on the reference portfolio of loan assets, through a risk sharing structure whereby the buyers of the notes assume the credit risk for €185 million of potential credit losses on the reference portfolio of loan assets in return for an initial annual coupon of €21 million.”

No assets will be derecognised from the group’s balance sheet as a result of the transaction. The reference portfolio of loan assets and related customer relationships will continue to be maintained by Bank of Ireland. However, in a move that reduces Bank of Ireland’s core tier one capital, it reassessed the quality of its mortgage book in advance of a European Central Bank review next year.

According to Bank of Ireland’s revised calculation of its capital requirements for its mortgage book, it now estimates that the credit risk weighting on the book has risen from 29 per cent to 34 per cent. On a pro-forma basis, the move will reduce the bank’s core tier one capital by 65 basis points.

“The credit risk transfer transaction is an important capital management tool and the first of its kind in Ireland. The mortgage revision is in anticipation of new standards and reviews which will occur early in 2017 — an area that is likely to be a significant focus across the European banking system next year,” Diarmaid Sheridan, an analyst at Davy Stockbrokers, said.

“The changes combined will result in a negative impact of 20 basis points [on core tier one capital] while there is also a roughly 2 per cent negative impact to earnings from the CRT transaction. While negatively impacting core tier one capital into year-end on a net basis, in our view, a 20 basis points impact to capital is unlikely to materially alter dividend considerations into year-end.”