When Irish Eyes Are Smiling

Plus: Blackstone, Trustly, Credit Suisse

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When Irish Eyes Are Smiling

“Time is a great storyteller.” — Irish proverb

Chinese Premier Zhou Enlai had a famous take on the French Revolution. When asked about its influence, his response was, it’s “too early to say”.1 The same might be true of the global financial crisis. One of the best books written about it is Crashed by Adam Tooze, published a full ten years after the event. But even that book doesn’t tell you how the story ends.

Right now, in Ireland, a fresh chapter is being written. In the past couple of weeks, not one but two banks have announced they’re exiting the market. First Ulster Bank, owned by the UK’s NatWest Group and then KBC, owned by the Belgian group, have said they’re out. Once home to a thriving banking market, Ireland is rapidly converging on a duopoly. 

If you’re familiar with the idea of the capital cycle – as outlined in the book Capital Returns – it’s an interesting set-up. Capital cycle analysis focuses on supply rather than demand dynamics in an industry. Instead of trying to project how many long-haul flights will be taken globally in 2022, it looks at changing supply conditions. So in banking, when capital in the industry contracts around just two players, that’s something worth paying attention to. 

Today, we take a closer look at what’s going on in Ireland. It’s a small market, sure, but it’s a great case study in boom-bust and what happens next.

The Celtic Tiger

Early in my career I was invited to attend a management offsite with executives of the Irish Permanent bank in a country club near Cork, in south-west Ireland. This was a small bank, founded as The Irish Temperance Permanent Benefit Building Society in the late nineteenth century. They were interested in my thoughts as an analyst on the prospects for growth in mortgage markets outside Ireland. As it was, except for a foray into the neighbouring UK market, they stayed close to home. The bank merged with a domestic life insurance company in 1999 and, a couple of years later, the combined group bought the Trustee Savings Bank from the Government of Ireland.

For a few years at least, the domestic focus paid off. Ireland was hot. Economic growth was running at around 7% a year. Tax incentives, competitive wages and European Union membership drew people in from around the world. Most of all, having signed up to the single currency in 1999, Ireland had access to deeper pools of liquidity and therefore cheaper credit than it had ever had before. All of this fuelled a boom in real estate markets and Irish Life and Permanent was there to cheer it on.

Having been kindled by positive developments in the general economy, real estate markets soon overshadowed most other sectors, becoming a major driver of the economy themselves. The construction industry swelled to contribute close to a quarter of GDP as homebuilders rushed to mine new houses. They built around half as many new homes per year as their peers in the UK were building, despite a population a fifteenth the size. By the mid 2000s, the construction industry employed around one in five of the Irish workforce.

Financing all of this were the banks and they competed aggressively to do it. Domestic banks grew their balance sheets to five times Ireland’s GDP at the peak and foreign banks rushed in. As well as Irish Life and Permanent, there was Bank of Ireland, Allied Irish Banks (AIB), Ulster Bank, Irish Nationwide, Educational Building Society (EBS) and Anglo Irish. Foreign banks included Danske Bank of Denmark, KBC of Belgium and Bank of Scotland from the UK. 

The poster child high-growth bank in this period was Anglo Irish Bank. Founded as a small finance business, it focused almost exclusively on real estate lending. Costs were kept low because the bank didn’t operate a vast branch network. Its business model was to make big-ticket loans to a relatively small group of loyal clients active in the real estate business. Its twenty largest clients made up about half its Irish loan book. Anglo Irish would process their loans quickly and affirmatively – 95% of loans put in front of the weekly credit committee were approved.

Anglo’s publicly professed mission was to “make our customers richer” and as they grew, Anglo grew. In the mid 2000s, its loan book was growing at around 40% per year. In 2004, its CEO, Sean Fitzpatrick boasted, “We’re bigger now than Bank of Ireland was in 1998.” By then he already had 14% of the Irish business banking market; he wanted that to double over the next ten years. 

The market loved the growth. Anglo’s stock price rose from €2.5 at the beginning of 2002 to €17.5 in mid-2007. Close to its peak, the company slipped out a share placing which was four times oversubscribed. Its valuation reached over 4 times book value (for context banks today typically trade below 1 times their book value). 

Other banks pursued a “chase Anglo” strategy. Bank of Ireland’s CEO told a board meeting in 2005, “we’re going to grow at 30% a year.” AIB opened a unit nicknamed ABA – Anybody but Anglo – charged with poaching Anglo’s largest clients.

Such intense competition led to a loosening of lending standards. Banks introduced interest-only mortgages and lent against 100% of the value of real estate, leaving no room for error. In 2006, around a sixth of Irish mortgages were made at a loan-to-value ratio of 100% and around a third were made at ratios in excess of 90%.

Former Anglo Irish executives told Michael Lewis, who dedicates a chapter to Ireland in his book Boomerang, “yes, we were out of control. But those guys were fucking nuts.”

There weren’t enough deposits in Ireland to fund all this growth and so banks had to borrow abroad. Having been funded entirely by Irish deposits in 1997, by 2008 loan-to-deposit ratios ranged between 130% and 175% for five out of the six major banks in the market; for my friends at Irish Life and Permanent, the ratio was 280%. The entire stock of Irish bank deposits was being used to fund commercial property loans.

So when funding markets started to wobble in the aftermath of the Lehman collapse, things went awry. Hedge fund manager John Hempton observes “The most scary thing to invest in is a fast-growing financial.” Irish banks are a case in point. 

After the Boom

By September 2008, investors had begun to doubt the sustainability of high priced real estate in Ireland. As the most exposed, Anglo Irish was losing access to funding markets but others were struggling as well. Stock prices collapsed and there was a fear of a run on the banks. 

Overnight on 29 September 2008 the authorities held a meeting to decide what to do. What followed was one of the greatest examples of strategic misdiagnosis in corporate history. Convinced that banks’ property loans were largely money good, policymakers characterised the crisis as one of liquidity rather than one of solvency. The banks themselves didn’t disavow them of that. Even at the end of 2008, Anglo’s CFO Willie McAteer was telling analysts that “asset quality is embedded in the culture of the bank… And this means that we don’t get surprises.” He estimated that “the range over the next three years of possible loss: between 300 and 600 million [euros]”. The actual loss over those three years was close to €35 billion but, at the time, policymakers gave him the benefit of the doubt. Their solution was to ease liquidity conditions and the way to do that was to unveil a guarantee that covered nearly all liabilities of Irish banks. 

On the morning of 30 September 2008, the Irish government announced that it would backstop €375 billion of bank liabilities, equivalent to more than two times its GDP. The move stopped the bank run. In fact, it led to an inflow of funds from elsewhere in Europe as depositors sought out an Irish government guarantee. But it led to the bankruptcy of the Irish state as the extent of the misdiagnosis became clear. 

Over the next few years, the Irish government would have to bail out its banks and the European Union and the International Monetary Fund would have to bail out the Irish government. All in, the Irish government injected €67 billion into its banks to keep them afloat. By the end of 2018, it had clawed some of that back, taking the net cost of the bailout to €42 billion.2

With the party over, many banks started to leave:

  • In January 2009, the authorities decided to nationalise Anglo Irish Bank. For a while they contemplated building a new business bank around its remains, but in mid-2010 they abandoned the idea and began the process of winding it down. (Former CFO, Willie McAteer, along with his CEO, David Drumm, and former head of treasury each spent time in prison for fraudulently bloating deposits with temporary transfers from a friendly rival in 2008. Drumm was released earlier this year.)

  • Irish Nationwide followed Anglo into full nationalisation in August 2010 after having had to write off a quarter of its loan portfolio in 2009. (“I don’t think it is an understatement to say that the losses are truly shocking,” said the Chairman.)

  • EBS was nationalised in December 2010 before being sold to AIB in May 2011. Because the Irish government owned a majority share in AIB as a result of its own bailout, the consideration AIB paid for the transaction was a nominal cash payment of €1.

  • Bank of Scotland, by then part of Lloyds, handed its banking license back to the regulatory authorities at the end of 2010 and walked away. 

  • After taking significant hits in the market, Danske Bank announced its exit in 2013: “We are closing down personal and business in Ireland as we can see that we cannot optimize the franchise towards the clients, neither to optimize it towards the shareholders.”

That left five banks operating in Ireland – Bank of Ireland, AIB, Ulster Bank, KBC and Permanent TSB (the new name for my friends at Irish Permanent after they shed their life insurance operations). In mortgages, the five had the market sewn up between them. In deposits, they controlled around 90% of the market with some credit unions and online banks taking the rest. 

It still wasn’t sufficient for them to make very good returns, though. A combination of deleveraging, low interest rates and the heavy burden of non performing loans suppressed profitability for many years.

In particular, due to a quirk in the way capital rules work, the banking crisis left a very long shadow. Every bank has to put aside some amount of capital to cover the risk it takes when it makes a loan. How much capital is determined by a model which uses historical loss experience as an input. And because the historic loss experience in Ireland is so bad, it leaves quite an imprint. Non-performing loans in Ireland kept rising well after the crisis, not peaking until the end of 2013. Around one in seven mortgages written in the boom years of 2006 and 2007 were still impaired ten years later. Although impairments on recent vintages have been negligible, the capital required to back them takes a nod to the past; the Irish Department of Finance estimates that the amount of equity needed to support a mortgage is probably more than five times what it was pre-crisis. 

These capital requirements are more onerous than almost any other country in Europe, perhaps not surprising given Ireland’s real estate crash was worse. Irish banks are able to pass on some of the drag to borrowers, which is why mortgage rates in Ireland are some of the highest in Europe. But not all of them. After a strategic review, NatWest Group decided that even a 15% market share was insufficient for Ulster to extract a return. It is selling a portfolio of loans to AIB alongside a complete withdrawal from the market. KBC came to a similar conclusion and is selling both loans and deposits to Bank of Ireland.

Assuming these deals are approved, Irish banking gets close to a duopoly status (OK, my friends from Permanent TSB are still around, but they’re small). Challenges remain, in particular the low level of interest rates. But with only two banks in the market, there’s a path to overcoming these challenges. AIB has already announced that it will pass on negative rates to depositors with balances in excess of €1 million (its previous threshold was €3 million) and on mortgages, there’s scope for the two banks to exert pricing power now that the cheapest on the market, KBC, has gone. 

There’s a very simple model that determines bank profitability in markets all over the world. Interest rates and regulation both matter but the overriding driver is market structure. It’s what explains low levels of profitability in Japan and Germany and high levels of profitability in Canada and the Nordics. A duopoly in banking is worth watching.

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The private equity business model is a profitable one (20% carry!) but it requires constant reinvention. A fund is raised, it’s invested, it’s harvested, and proceeds are distributed back to investors, minus the manager’s fee. Blackstone raised its first fund, BCP I, in 1987. A total of $860 million was raised which was grown into $1.74 billion, before being returned to investors. In 1993 Blackstone revved up its capital raising efforts to do it all again with another fund, BCP II. 

There are a number of ways to turn this process from a series of trades – or melting ice cubes – into a business:

  • One is to leverage brand (roughly correlated to investment performance) to extract loyalty from customers. Every time Blackstone raises a new fund, some of the commitments come from investors recycling their proceeds from prior funds (hoping for the 2.6x they got on BCP I).

  • Another is to launch multiple funds across multiple strategies. Blackstone offers real estate funds, credit funds, hedge funds and now growth funds (its $4.5 billion growth fund is the largest first-time fund ever and has already secured some wins e.g. Bumble and Oatly). The firm currently has around 50 ‘live’ funds operating, with investment periods that stretch out to 2026 and harvesting periods beyond. If the ice cubes all melt over different timescales, things can stay cool for a long time. 

  • A third strategy is to attract perpetual capital that isn’t forcibly redeemed. At its investor day in 2018, Blackstone highlighted this as a key objective. With its first quarter results this week, the firm revealed it has just under $150 billion of perpetual capital – spread across 15 funds – out of total assets under management of almost $650 billion. These funds generate recurring management fees, aligning the business model closer to a traditional asset manager than to a private equity fund. 

For much of its life as a public company, Blackstone traded as an ice cube. Back in 2013, founder and CEO Stephen Schwarzman complained:

“I think about valuation all the time because we are always making huge numbers of investments. I was looking at sort of the way money management industry was valued… There are two of them with 18 PEs. One of them is called Waddell & Reed… Their compound rate of growth of their assets is 12% and ours is 27%. They are paying out a 2% dividend, and we will be 6%. Their multiple is 80% higher than ours… I sort of look at this and I go, how do you do stuff like this? In other words, how do you grow half of our rate and have a multiple that’s 80% higher?... So what I would say to you is you should consult these types of things because my experience as an investor – which is now – I’ve been playing financier for over 40 years. That’s older than some of you people. In fact, that’s older than a bunch of people – that when numbers are this far out of kilter, there’s going to be a reevaluation, a reassessment. There are some times in finance where people really get it wrong…”

Two years ago, all Blackstone’s strategies came together and it was re-rated as a sustainable business. Waddell and Reed was acquired at the end of last year at 7.5x EV/EBITDA. Blackstone now trades at 23x.  


There are various attempts out there to disrupt the credit card market. Buy Now Pay Later is one we’ve discussed here before. Another is account-to-account payments, where Sweden-based Trustly is a market leader. The company hooks merchant bank accounts up to consumer bank accounts to process payments without the use of a credit card – and the associated fees. In 2020 it did around $21 billion in transaction volume with a customer base of around 8,100 merchants and 525 million consumers. 

The company takes around 1.0% on the value of transactions and has a very high EBITDA margin of 46%. It anticipates that it can grow revenue at 30% per year and maintain margins at 45%. Trustly was limbering up for an IPO but this week the Swedish Financial Supervisory Authority raised concerns about the due diligence the company does on some consumers that use its payment initiation service. 

It’s clear why the company would need to undertake due diligence on merchants; less so on consumers, particularly if they already have a bank account. But the issue does highlight the real challenge – and cost – associated with payments which is know-your-customer rather than the technology of moving money.

Credit Suisse

It’s not just credit losses that cast a long shadow into an institution’s future as per the Irish banks discussed above. Slip-ups like Greensill and Archegos can have a lasting impact too. The Swiss banking regulator, FINMA, imposed capital surcharges related to them both on Credit Suisse. While the Archegos surcharge will roll off as the bank sells down its exposure, the CFO said on his earnings call that he “can’t preclude any further add-ons”. Meanwhile, the Greensill surcharge will stick around. These surcharges come on top of an increase in required capital linked to operational risk after the bank took losses last year on legacy mortgage issues. 

It used to be that a trading loss would attract a P/E ratio of 1 – dumb move, but no franchise implications, move on. Now, these issues have longer lasting implications.


Zhou Enlai made this comment in 1972 and it turns out he may have misinterpreted the question as being about the Paris student revolts of 1968 rather than the events of 1789. Still a good story, though.


The Irish government continues to hold stakes of 71% in AIB, 14% in Bank of Ireland and 75% in Permanent TSB.