There's been a lot of excitement over the last week about a new entrant to the Irish mortgage market, and speculation about what rates they might offer. I've seen posters here, and elsewhere, pointing out rates available in Germany and Spain for example, and talk about those rates being made available here.If the average rate across the eurozone is 1.8%, then they might see the Irish market as attractive but at the current rates.
However, German mortgage rates will NEVER be available here. Why?
The 1 key measure that bank investors (and therefore banks) care about is return on equity.
Apart from bad debt losses, the others big influence on return is Net Interest Margin. That's the number people are focused on - the margins are higher here. Fantastic opportunity for a foreign bank.
However, the equity part of the equation is overlooked.
If a foreign bank offered the same rates here as in Germany, their return is lower. Because they must allocate much more capital under capital adequacy rules.
In Germany the risk weight of mortgages is 15%. In Ireland it's 40 on new business (it's as high as 80 for example on back book in Ulster Bank). A foreign bank moving here would need to use standardised Irish risk weight models, so would be using weights of 35-40% depending on LTV.
So the risk weighted assets of their balance sheet is higher, requiring more capital.
Irish banks have the additional impact of counter cyclical buffers requiring more capital against their RWA.
What's the impact of this?
The below estimates are from Goodbody in relation to Bankinter:
" We would note that Spanish mortgage risk weights
average 15% vs c.40% in Ireland (on new business). Any new entrants here would
have to work off Irish models or standardised risk weights, so the starting point
would be RWA densities of 35-40%. We estimate a 2.0% interest rate on 35-40%
risk weights generate ROEs of 8.5-9.5% vs 22% on a 15% risk weight."
No bank is going to allocate capital to Ireland to earn less than half the return they can get at home, before factoring in potentially higher losses here, or sharing profits with a partner like An Post.