Irish bank losses may exceed the 2011 stress test assumptions of  €9bn by in the range  €1 to 2.5bn because of increased mortgage arrears. Up to 40,000 BTL (rental) mortgages will soon be in arrears.

Davy Stockbrokers say in a report [pdf] issued this morning that at end-2011, 25% of the covered banks' Buy to Let (BTL) loans were in 90+ day arrears.

The report says that a substantial  amount of BTL lending that originated in H2 2007 and in 2008 has not yet hit the trigger to increase payments to both interest and principal.  "We estimate that 29% of Bank of Ireland's BTL balances and 35% of  Allied Irish Banks' outstanding BTL mortgages have yet to switch to principal and interest repayments.

We expect that by value the proportion of BTL loans in arrears will rise to 38.4%. Based on a 60% fall in property prices, peak-to-trough, delinquent loans will have a current market value of €6-7bn or close to 40,000 BTL properties will be in arrears."

Summary:

Continued rise in mortgage arrears a concern

• We expect our...measure of owner occupier arrears to rise from 13.4% by value in Q1 2012 to an eventual peak of 16.5%.
• This forecast is based on a statistical regression model of arrears, conditioned on our economic projections. A slowly stabilising labour market should reduce the pace of mortgage arrears formation.
• Arrears on buy-to-let (BTL) loans are a concern, running at over 2x owner occupier rates and driven up by mortgage terms switching to interest and principal payments.

Restructurings to move beyond short-term measures  

• Restructured mortgages have had limited success in restoring loan performance, with interest only and principal payment modifications prevalent.  
• A remarkable feature of the Irish housing market bust is the lack of principal write-downs and repossessions.  
• The new PIA regime may encourage repossession of BTL property loans, but there is a risk that the new measures merely delay loss recognition by banks.  
• If banks attempt to liquidate a large number of their delinquent BTL loans, property prices could fall.

Mortgage losses to exceed PCAR adverse case

• We now expect covered banks' mortgage book loan losses to exceed the €9bn in last year's PCAR (bank stress) exercise.
• But eventual losses of €10-11.5bn could be absorbed within the remaining €8.5bn of unused capital from PLAR deleveraging requirements.
• Tactical delinquency, increased bankruptcy, further property price falls and macroeconomic developments pose risks to this view.
• Banks need to show that they can absorb loan losses within Tier 1 capital to generate market confidence and return to profitability.

Separately, with independent rating agencies predicting that house prices will fall by an average of 60%, a mortgage expert has called on the Government and Central Banks to put in place a mechanism which will allow people in negative equity to move through rental without being penalised by tax or by the withdrawal of tracker mortgages. Kevin McNerney of the Trusted Advisor Group contends that limitations on current negative equity mortgages are not working and that the problem needs to be addressed with haste because Ireland’s mortgage holders will suffer negative equity for at least another 10 years.

According to McNerney, “At present, there are only small number of banks who are officially offering Negative Equity Mortgages. This means that if you are with one of these lenders and want to avail of it but don’t meet their lending criteria for the new loan then you cannot try other lenders to see if they will approve you. Banks are only concerned about their own loan books and will not take negative equity from another lender just to get business.

Some banks have had this product available to them since mid-2011 but have announced recently that the number of customers who are eligible for this product is very limited. Other banks in the market are currently looking at the merits of this product to see if it would benefit their customers, and more importantly themselves, but some say they have no intention of introducing it. In fact, a person in one of the banks went as far as saying that the “100% mortgages are what got us in to this mess so what makes people think that 125% mortgages are going to get us out of it”.

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