Bank and insurance stocks have been experiencing mixed fortunes so far this year. The focus has been on the US market where recessionary fears are leading to a great deal of attention being paid to the asset quality of US banks balance sheets.
At this stage a high proportion of US banks have now issued their fourth-quarter results. Profits performed close to expectations although some large banks such as the newly merged JP Morgan Chase and Bank of America have produced disappointing figures.
Regarding prospects for 2001, the majority of US bank chairmen are predicting a further deterioration in asset quality. This will force the majority of US banks to increase their loan loss provisions thereby putting downward pressure on their reported profits.
Current share prices probably incorporate a modest increase in bad debt provisions and as the table shows, US banks are modestly valued by the stock market. For example, Bank of America trades on a price earnings ratio (PER) of 9.4 and its market capitalisation is 1.9 times its historic net asset value (NAV).
It is true that worries regarding exposure to California's troubled electricity utilities have depressed Bank of America's share price. Therefore, a better indication of US banks is provided by a strong regional banking group such as Fleet Boston that trades on a PER of 12 and at 2.5 times its historic NAV.
Oscillations in the share prices of US banks have spread to Europe and this has been a significant factor in halting the recovery in the share prices of the Irish financial sector that typified the second half of last year. This despite the fact that only AIB has significant exposure to the US through its Allfirst operation and therefore the Irish financial sector should not be severely impacted by the bad debt problems of the US banks.
However, if the current slowdown in the US proves to be prolonged and/or much sharper than currently expected, the ensuing global economic slowdown would almost certainly have a severe negative impact on the Irish economy. Given the high dependence of Irish financials on the Irish economy any significant domestic slowdown would quickly feed through to weaker share prices.
However, as long as the US economy achieves a soft landing during 2001 the share prices of Irish banking and insurance stocks will be primarily influenced by developments in the Irish economy and industry specific issues.
One such issue that has recently surfaced is that Irish insurance firms may be the subject of miss-selling life policies in the 1980s. Irish Life & Permanent is the only company that is mentioned but this could also affect AIB and Bank of Ireland.
This issue relates to up to 60,000 customers of IL&P, which were sold "whole of life policies". The small print gave the insurance company the right to increase premiums if circumstances changed. Customers are now being faced with dramatic increases in premium or much lower benefits. However, it seems that customers were unaware of this review and the requirement for potential premium increases. It is impossible at this stage to assess whether this will have a significant financial impact on the Irish assurance industry. It does seem as if the policy documentation did spell out that the company could alter the level of premium if market circumstances warranted such a change.
The damage could be confined to that of negative publicity that may adversely affect sales. However, until the issue is resolved and quantified it is likely to act as a dampener on the share prices of the Irish financials.
