Adoption issue ...fizzles in gutless Seanad

In a follow up to my post on the issues of adoption between Ireland and Russia and Vietnam (here) - and a large number of responses I received to it - yesterday there was a debate on the issue at the Seanad, the transcript of which is available here.

Given that Seanad site provides collapsed entries for each statement on the issue and since the debate took place in the context of the debate on the order of business (so the adoption issue is mixed within other statements), here are the parts of the debate that relate to the topic. My quick analysis of what happened follows this copy of the Seanad record.

Emphasis is mine, throughout.

Senator John Hanafin: I raise the issue of adoptions from Russia and Vietnam. In particular, I am cognisant that the difficulty that has arisen could be ameliorated through serious bilateral negotiations, notwithstanding the fact that all organisations, including the Health Service Executive, have limitations. Whereas normal criteria are applied prior to adoption, I understand post-placement requests have become extremely vigorous. If a little understanding were shown, it could help the HSE and put the matter in context..

[Senator Hanafin subsequently votes against a proposal to bring in Minister Barry Andrews for questions on the issue that he so passionately supports in this statement]

Senator Ivana Bacik: It is important to debate the treatment of children today. It is extraordinary that this Government has time to legislate for an outdated and dangerous offence of blasphemous libel--- and yet no time, apparently, to ensure the impasse between the HSE and the Ombudsman for Children is resolved and ensure the bilateral agreements for adoptions in Vietnam and Russia are resolved.

[Senator Bacik subsequently votes in favour of a proposal to bring in Minister Barry Andrews for questions on the issue]

Senator Mary M. White: Like my colleagues, I call on the Leader to invite the Minister for Health and Children, Deputy Mary Harney, to come in and explain the difficulties faced by the Ombudsman for Children, Ms Emily Logan, which led to her suspending her investigation into the HSE’s handling of the child protection audit of Catholic Church dioceses. The HSE should be absolutely transparent as a public body and should be forced to co-operate fully with the Ombudsman’s investigation...

When the Minister of State at the Department of Health and Children, Deputy Barry Andrews, was here to discuss the Adoption Bill he was exemplary in his understanding and comprehension of the legislation. I remember my colleagues on the other side of the House praised him for his dedication and understanding. It is critical we get to grips with the situation regarding adoptions in Russia and Vietnam. When I spoke on the Bill I said we must have compassion for the parents who are waiting to adopt children and for the children who are aching to be brought into a loving family...

[Senator White subsequently votes against a proposal to bring in Minister Barry Andrews for questions on the issue that she so passionately supports in her statement]

Senator Fidelma Healy Eames: I am pleased there is support on both sides of the House for an urgent clarification by the Minister of State with responsibility for children, Deputy Barry Andrews, on the adoption crisis currently being experienced by families in this State. As an adoptive parent, I know what it is like to go through the process of adopting a child. As we speak, the applications of 24 Irish couples are delayed in Hanoi because the Minister of State has dropped the ball.

In the first week of March, we debated the provisions of the Adoption Bill 2009 in this House. Senator Fitzgerald and I told the Minister of State it was critical that the bilateral agreement should be in place by 1 May. His failure to act is hurting families, including the 250 couples who are ready to submit their applications to the Vietnamese authorities. The Minister of State has also dropped the ball in regard to Russia. Irish couples successfully adopted 484 babies from Vietnam and Russia last year, accounting for 84% of inter-country adoptions. I implore Members on the other side of the House to come together us on this issue. I ask that the Minister of State, Deputy Barry Andrews, be invited to the Chamber this afternoon to update us on the situation. I cannot answer all the e-mails I am receiving from people asking questions about it.

[Senator Eames subsequently votes in favour of calling in Minister Barry Andrews for questions on the issue]

Senator Ciaran Cannon: I refer to the matter of adoption. I have much respect, as does Senator Norris, for the Minister of State at the Department of Health and Children, Deputy Barry Andrews. He has brought fresh thinking and enthusiasm to that Ministry. However, the energy and effort invested in the attempt to get the agreement with Vietnam re-established took place far too late. It began in earnest in March and the Minister of State should have made it a priority. He should have gone to Vietnam to establish what the issues were and how they could be resolved.

[Senator Cannon subsequently votes for a proposal to bring in Minister Barry Andrews for questions on the issue]

Senator Nicky McFadden: I also support Senator Fitzgerald’s comments on the bilateral agreement. I agree with Senator Norris about the Minister of State, Deputy Andrews. He is a good, caring Minister of State but why in God’s name did he only start negotiations in earnest on 25 March? Why did he not go to Vietnam, as Senator Cannon said? We need to put ourselves in the position of the families who, after five years of negotiation, are going to get their packs, information and deposits back from Vietnam and such places. That will be heartbreaking and soul destroying for people, not to mention the effect it will have on the extended families. Given that 1,000 families are waiting in this situation, it is incumbent on us to sort it out as soon as possible.

[Senator McFadden subsequently votes for a proposal to bring in Minister Barry Andrews for questions on the issue]

An Cathaoirleach: Senator Fitzgerald has proposed an amendment to the Order of Business, “That a debate with the Minister for Health and Children on international adoptions, the suspension of the inquiry by the Ombudsman for Children and plans for child care places be taken today”. Is the amendment being pressed?

Tá: Bacik, Ivana. Bradford, Paul.Burke, Paddy.Buttimer, Jerry.Cannon, Ciaran.Coffey, Paudie. Coghlan, Paul. Cummins, Maurice. Fitzgerald, Frances. Hannigan, Dominic. Healy Eames, Fidelma. McFadden, Nicky. Mullen, Rónán. Norris, David. O’Toole, Joe. Prendergast, Phil. Quinn, Feargal. Regan, Eugene. Ross, Shane. Ryan, Brendan. Twomey, Liam.

Níl: Boyle, Dan. Brady, Martin. Butler, Larry. Callely, Ivor. Carty, John. Cassidy, Donie. Corrigan, Maria. Daly, Mark. Feeney, Geraldine. Glynn, Camillus. Hanafin, John. Keaveney, Cecilia. Leyden, Terry. MacSharry, Marc. McDonald, Lisa. Ó Domhnaill, Brian. Ó Murchú, Labhrás. O’Brien, Francis. O’Donovan, Denis. O’Malley, Fiona. O’Sullivan, Ned. Ormonde, Ann. Phelan, Kieran. Walsh, Jim. White, Mary M. Wilson, Diarmuid.

So motion was defeated... Why? Anyone?

I have no idea and I cannot define a single reason as to why would anyone oppose this, but what is clear to me is that there is some sort of a party-line closing of the ranks on the No side. Gutless and crass! And espacially so for those who spoke of their concern for children and adopting parents and then turned their backs on them in the vote!

Economics 07/05/09: Banks: over-exuberant markets?

Forgive me if I am stating the plain obvious, but Ireland Inc is now insolvent. Full stop. And this means I cannot understand how on earth do the markets think BofI and AIB are a good buy at over €1.00. These prices reflect a peer-pricing comparatives, not the specific banks' fundamentals.

Fundamentals of any regional bank must be tied into two things:

1. regional growth prospects relative to the bank's market share; and
2. bank's ability to open new markets.

Both, BofI and AIB are Ireland-only institutions, with some seriously toxic exposures in the UK (both banks hold loads of buy-to-rent mortgages and commercial property deals of recent vintage, many of which are intitiated by the same Irish developers who got their loans in Ireland as well and much of it probably cross-collateralized). AIB also has exposure to Poland and the US, but in the US it has a minor stake in a minor play, while Poland is seriously suffering. Both stakes have no real upside for the bank and are illiquid at this time.

So it is back to Ireland for both banks and thus to points (1) and (2) above.

On point (1), regional economy - Ireland Inc - has no real prospect for growth. If you are in a business of lending you are in for a shock in this country with Ireland's:

• rising (and already high) insolvency rates for businesses (see here);
• contracting domestic demand (down 20% already) that, once stabilized, will remain low until households deleverage, which in the case of Irish households means shedding about 50% of their current mortgages and consumer debts to get themselves in line with, say, the US households (in Ireland, household debt per capita stands at about €2 per each Euro of GNP; in the US the figure is about $0.98 per each Dollar of GDP) - do tell me how can this be done if taxes are climbing up while wages are falling down?
• falling external demand and FX shocks - with Irish exporting sector still performing reasonably well, there will be more bad news on the horizon. Even when the global trade turns the corner, Irish banks are hardly significant players in the MNCs game, having no clout, knowledge and global presence of international banks, so exports-led recovery will do little to improve AIB and BofI balancesheets;
• new business start-ups - this area has low potential for growth becasue we are in a big time slowdown, but it also has very high risk attached to it and, again, BofI and AIB simply have no experieince of normal (non-collateralized) business lending;
  
• housing loans - mortgages lending is going to continue contracting for now and will remain extremely low in years to come because of several factors, including lower incomes, higher income uncertainty, higher taxes (think of us having to actually pay off that NAMA loss over 5-7 years horizon); decimated pension funds, lower disposable savings (just think of people starting to set aside savings for kids college fees and you get the picture), lower cost of housing purchases (smaller transactions volume) and higher costs of house ownership (think of our Greens imposing more and more costs on homeowners while Mr Lenihan & Co are raiding households for more indirect taxation and charges), property tax introduction, etc. etc. etc.;
• competition from other banks - intensifying competition from the foreign-owned banks present here, entering traditionally AIB and BofI territory of personal banking and consumer lending, small business lending and property loans - can BofI and AIB really compete against Barclays, HSBC, or even Rabo, should these banks pursue aggresive growth strategy?

So where, tell me, will the growth come from to bring Irish banks into profitability to sustain their current valuations?

Ah, but they do have some value left in them, I hear you say. Ok, sure, they do. Run two scenarios:

Scenario 1: NAMA takes a bite and swallows them in chunks. Equity dilution means existent shareholders will be stuck with, say 10% of the post-NAMA equity pool. In effect, if you are buying these shares now, you will have 1/9th of the value of these claims against current assets post-NAMA. Now, put differently, if you bought today at, say, €1.20 AIB and €1.17 BofI, you actually bought a claim that is worth €0.12 on AIB and €0.117 on BofI in post-NAMA equity. Does this make any sense? I'll get to it in a second.

The only way the above trades make sense is if you expect the Government to nationalize both banks at a spot price on the day of nationalization. In other words - you are in aconfidence game, which can be less-flateringly described as a game of chicken. You run at the Government at an increasing pace, hoping that you can make Cowen and Lenihan blink and pay up on your gamble. That is a hell of a lot of hope. But it is worth entertaining:

Scenario 2: Government nationalizes both banks paying spot price on the close of the day before nationalization. You wake up one day and your shares are just worth what they were last evening at the closing bell, except the state is giving you an IOU for them and the IOU might even bear a discount on the closing price.

This has to be priced as a gamble, or an option. You can get some eggheads in your pricing department to do the maths, but here is a sketch:

You in effect are paying €1.2 today on a put option giving you a right to sel to the Irish Government a share of AIB at some excercise price X to be paid at maturity T, when AIB stock will be worth S(T).

Now,

• T is uncertain and can be dependent on the S(t) - if Government were to time its nationalization to cheaper price setting;
• S(T) is uncertain, since we do not know T and because the Government can apply a purchase discount d at the day of nationalization, paying you S(T)(1-d) for your shares.
• Discount d can be indepednent of S(T), or it can be increasing in S(T) should the Government decide to extract 'value' out of nationalizing what it might perceive as an overpriced bank.
  

At this point your eggheads would tell you that there is too much uncertainty to price this deal, stay with me for now.

You expected profit on this put is given by the following:
If you are a sensible investor you have a required rate of return, say r, which in turn determines a strike price required for you option to yield such a return, call it X*:
Of course, your price P is just what you pay today for AIB shares.

The above is still unsolvable and your eggheads are now heading for the windows of their high-rise, high-spec office block. So to save them, lets make another reasonable assumption, namely that when you bought AIB shares at €1.20 you expected them to go up by some factor k which might or might not relate to your required rate of return r. Just for fun, assume that k=r - in other words you were adding AIB to your portoflio on a neutral expectation (we can try it to be aggresive, so k>r, but clearly, no sane person would try to price AIB as a defensive play, unless you've been managing Zimbabwe Soverieign Wealth Fund).

Now, we have required strike price of
Parameterising this for r={5%}, d={0,10%}, we have: X*>{2.5, 2.93}. In other words, for you to make money on this deal, you need the Government to commit to a strike price above €2.5-2.93 per share of AIB range.

And we have not dealt with all layers of uncertainty at all...

Put alternatively - as a bet on nationalization, your purchase of AIB does not really add up. Now, if the price of shares was €0.12 for AIB at the time you bought, then ok, you might have been making a rational bet on nationalization. But not now.

Finally, back to the Option 1: so what does NAMA imply about the fundamentally-justifiable share price for AIB?

Post NAMA, Mr Lenihan will own lions share of AIB. Suppose it will be 90%. Impairment on remaining loans is not going to go away, but it will decline on average. Suppose to 5%, while AIB's book will have shrunk by ca 50%. You are now holding a share covering just 10% of the old total, which means that underlying asset base for you shares is now only 5% of the old share. With 5% impairment, there is no significant asset upside anytime soon, so you are stuck with 5%. Suppose that in the next 5 years you expect AIB to get their act together and rise to the levels of valuation that are 75% of the peak of the 52-weeks range, i.e. old pre-NAMA shares trading at €10.69. In post-NAMA terms, you have a claim to just 5% of this, or €0.53 per share.

Your loss on today's closing price is €1.20-0.53/[(1+i)^5]=€0.72 in today's Euros.

Table below shows some valuation scenarios, assuming 1.5% average annual inflation between now and 2014:
In red - is your bet when buying AIB at €1.20 range: you assume that

• post-Nama Irish Government will hold no more than 75% of equity in the banks, and
• by 2014 - 5 years from now, AIB will be trading at the 75% of its past 52-weeks peak valuation - that is very brisk business conditions indeed, roughly consistent with Ireland's GDP growing at 6-7% pa to get you to such valuations;

In blue is the scenario I find more plausible, but which implies today's share price on AIB of €0.43:

• post-Nama Irish Government will hold no more than 90% of equity in the banks, and
• by 2014 - 5 years from now, AIB will be trading at 65% of its past 52-weeks peak valuation;

Now, that 65% past price valuation I find a bit optimistic (as I assumed that only 90% not 95% will be owned by Mr Lenihan, and my assumption on shares valuation implies a rather robust 3-4% growth in Irish GDP), but hey, let's not split hair. AIB's shares shouldn't be anywhere near the current price range...

Economics 06/05/2009: NAMA & Bananas for Brian

January-April tax receipts are down 24% y-o-y or €3.2 bn. Same as in February, but erasing a slight gain (-23% y-o-y deterioration) in March. Some say this is good. I am not sure what they have in mind:

1. the fact the we are back on a steeper February downward curve rather than on an imperceptibly flatter March one; or
2. the fact that we are not down 50%?
   

Worst performing tax heads are in bold in the table above. But seasonality matters, so we compare monthly changes in the shortfalls this year so far against the average monthly shortfall for 2008 for the same period of January-April.
Red marks subheads that deteriorate in performance from month to month, relative to previous year. In other words, red numbers represent the cases where y-o-y shortfalls increase from one month to the next. Several conclusions worth making:

• Compared to average shortfall in 2008, April 2009 is much worse across all, but two categories: CGT and Stamps. This, of course, is just due to the fact that once you have fallen through the basement ceiling, there isn’t much room left to fall further;
• Overall, shortfall in April 2009 is worse than the monthly average for 2008 period;
• In April, shortfall has improved relative to March in Customs, Excise, Stamps, Corporation Tax, VAT and Total Taxes; it has worsened in Income Tax (despite the levies), CAT and CGT;
• VAT leads as a main cause of the overall shortfalls – down €1.043bn – ca 33% of the total shortfall – this, in part, is because of the reckless VAT hikes, not despite them;
• Another 26% of the shortfall came from Stamps and CGT both property related taxes, were down €838 million, making up a further 26% of the shortfall.
  

Now to the deficit matters: in April Budget, tax shortfall for 2009 is estimated at €34.4bn – 15.6% decline on 2008. We are now at a 24% decline in annualized terms, suggesting DofF is waiting for some miracle to significantly raise revenue. What this might be?

Speculation 1: another mini-Budget post local elections with a massive tax hike - doubling income levies and doing some nuclear work on PRSI; or
Speculation 2: Pfizer, Dell, Glaxo, Apple, Microsoft, Google and the rest of the world producing a rescue package for Ireland that is massive and has no lags to build; or
Speculation 3: in response to President Obama threat to tax US MNCs based here, we impose a tax on Irish-Americans.

Looks to me like Speculation 1 is the winner.

Now to the expenditure side:

• Current spending was up 4.5% in the first four months, down from the 8.2% rate of increase in March. Factoring deflation, this is still a hefty increase;
• Capital spend was down 14.5% on April 2008, so no stimulus, Brian, despite all the promises;
• Service of national debt is up from €1.262bn in Jan-April 2008 to €1.501bn this year so far. Total debt management costs along with sinking fund: up from €1.736bn to €2.108bn a rise of 21.4% y-o-y;
• Agriculture & Food – up cool €145mln y-o-y - pork dioxins scare, I presume;
• Community, Rural and Gaeltacht Areas – up minor €5.6mln y-o-y;
• Education & Science down €173mln, so Government priorities on who gets dosh first are pretty clear – building the knowledge economy out on the farms;
• Environment, Heritage & Local Government is being beefed (or biffoed?) for local elections with a juicy €30.1mln increase on 2008;
• Other increases are linked to social welfare and other spending that is most likely unemployment-related;
• Overall, voted Government spending is up €275mln or 1.8% in nominal terms, roughly 5% in real terms – some fiscal crisis they are having…
  

If the last bullet point isn’t enough, public sector salaries, pensions and allowances are up from €16.477bn in the first months of 2008 to €16.69bn in 2009. Now that is an interesting number. Up 1.3% y-o-y in nominal terms, 4.5% in real terms. And one has to recall that 2008 includes the six months of Government’s denial that we are facing a crisis and six months of promises to cut public spending!

But wait, there is more fun in the numbers. We dumped €19.04mln into Carbon Act 2007 Fund in the last 4 months – a 100% increase on 2008. We also managed to stuff more cash - €396mln to be precise – into the NPRF, aka public sector pension piggy bank.

Yes folks, we are still broke, but don’t tell it to the public sector employees. For them, the party is just keeps rolling on. So taxes for us, baNAMAs for Brian and some champagne for public sector workers. Sharing the pain...


NAMA has an 'interim' head... and he, as expected,

• is independent,
  
• is experienced in the private sector and management of stressed assets on a large scale,
  
• is an outsider with no links to the civil service or to the good old boys networks in the public sector
  
• has no past policy fiasco on his report card.
  

Brendan McDonagh is currently director of finance, technology and risk at the NTMA (not many degrees of separation from the public sector here).

He works for NTMA which never did stressed assets management although it does a good job at raising debt - so NTMA is a borrower, and Brendan will be running a Lender. Wolves guarding sheep... or is it the other way around?..

There is no real separation from the DofF / the Government, since NTMA is the financing branch of the DofF / the Government.

This 'outsider' to the old boys network is originally from ESB - that pillar of private sector excellence in Ireland.

I am sure he is an excellent accountant and a good treasurer and a great technology officer (though judging by the NTMA website, there is work left to be done on that front)... But here are some crucial questions to be asked:

• is he any good at investment and risk strategy? (I presume he has a worldwide following amongst asset managers for his strategy insights into asset markets, risks pricing etc. He handled treasury, audit and accountancy for ESB and largely the same for NTMA, but there was some risk management part to his role);
  
• is he any good at portfolio management? (I presume he has managed some real asset portfolios long and short, yield and CG, fixed income and equities, private equity and partnerships, for it will take a lot more than a chartered management accountancy qualification to understand and manage €80-90bn worth of portfolio assets. Does he have vast experience in dealing with diversified (internationally and instrumentally) financial products under macro and micro-economic stress?);
  
• is he any good at saying No to political classes pushing for political payoffs from NAMA - a certain to take place in months to come? (I presume he earned such fierce independent reputation at NTMA which is happy to borrow short (3mo-9mo) to finance our deficit even as the OECD and IMF warn the world not to test their luck and borrow long);
• is he any good at preparing assets for sale and liquidation via private markets (for this is what NAMA will have to do in years time)?

... ah... well, we wouldn't know, because we don't get CVs of the career public servants released to us, but on the last point we actually have some past performance record: http://www.finance-magazine.com/display_article.php?i=3879&pi=162 (here). Mr McDonagh it turns out was instrumental in one 'successful' long-term financial engineering project - privatization of Eircom. That was a resounding success that all of us wish onto NAMA too, don't we?

In reality, Mr McDonagh may or may not be a right candidate for a job. We do not know. And past performance with Eircom privatization is not necessarily an indicator of future performance either. This would be unfair to him had he be given a chance of defending his application for the position in front of us...But Brendan never did defend his candidacy in front of anyone so lowly as us, people whose money he will be taking. Incidentally - was his position advertised in line with the EU law for public appointments?

As I said, it is my money and yours that Brendan will be spending and managing. And we need to know, for when we do not know, we are asked to trust the appointing authority. Do we trust Brian Lenihan? With some €80-90bn worth of our last pennies? It is that simple.