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Thread: Financial Analysis of the Prom Note Deal: Where is it?

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    Politics.ie Member Volatire's Avatar
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    Default Financial Analysis of the Prom Note Deal: Where is it?

    This country is crawling with well-paid economists and financial analysts. Yet not one has produced a financial analysis of the Promissory Note deal so far. The vacuum is being filled with financially illiterate guff and bluster "it's like a mortgage", "inflation will wipe it out", "handing debts to your children" etc.

    Why the delay? The details of the deal have been available since yesterday. Promissory Notes/Technical Briefing - Department of Finance - Government of Ireland.

    The reason for the delay may be that this is, in effect a derivatives deal. Let's call it a Noonan Swap. Many economic commentators, normally so vocal, are probably out of their depth. They don't know how to price a Noonan Swap which is a derivative in the same sense as an interest rate swap, only more complicated.

    The cashflows associated with the Prom Note were penal but certain. We knew exactly what they would be. By design, the initial NPV of the new bonds is identical to that the PN. This allows the PN to be bought back at fair value.

    As time goes on, however, the cashflows associated with the new deal become increasingly uncertain. The effective interest associated with the deal starts out as ECB refi rate (which is attractive). But the ecb rate is uncertain and more likely to increase. Also, the bonds have to be sold onto the open market on a pre-determined schedule. This means that the cost crosses over to become long-term Irish bond yields. We don't know where those yields will be. For example, they would be higher in an inflationary environment. Inflation increases the financing cost to the state. ICB even has an option to convert to fixed rate bonds. We don't know how this option might be exercised, but this also affects the eventual cost.

    Derivatives deals start out benign. However over time, if left unhedged, their valuation can move drastically.

    Noonan's swap starts out with low interest payments. However, the net value of the swap will change radically. In other words, while it is initially cheaper to finance than the PN structure, it is much riskier in the long term. Noonan's Swap may make money relative to the PN, as claimed. Or it may lose money. Depends.

    Of course, the goal of this structure was simply to reduce payments over the short-term. That was the only objective. In a sense, they had no choice. The Greek government was doing something like that in 2001 when it entered large cross-currency swaps agreements. Those didn't work out too well.

    Let's hope that the Irish government has been well-advised. Looking forward to seeing some analysis from the army of economists who live off the public purse.
    Last edited by Volatire; 8th February 2013 at 11:48 AM.

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    Politics.ie Member ruserious's Avatar
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    When they expect inflation to wipe out the capital costs in 40 years, they have not expanded on the idea that interest will rise to offset that inflation which coupled with austerity could cause a mortgage crisis and a further bailout if the banks are still state owned at that time.

    I won't hold my breath for analysis from RTÉ. TV3 have been superior throuhout.
    Boycott the "Irish" Sun rag.

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    Politics.ie Member Kevin Parlon's Avatar
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    Yes please. Still smarting from the irrevocable transfer of banking debts to sovereign debt, but what does it all mean? Are people who say "it will never be paid" to be believed? Have we simply bought short term relief for longer term deeper pain?
    "It is amazing how many people think that they can answer an argument by attributing bad motives to those who disagree with them." - Thomas Sowell

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    Politics.ie Member ruserious's Avatar
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    Boycott the "Irish" Sun rag.

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    Politics.ie Member Howya's Avatar
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    I posted this on the "other" thread

    A calculation might be useful. Based on imperfect information and making the following assumptions;
    interest rate on bonds is 3.25%
    interest only to 2038
    principl paid down in equal instalments from 2038 to 2053

    Nominal value is approx 65bn
    the nominal value of the old PN was 48bn

    So in nominal terms we are paying an extra 17bn. The question is, can the economy grow at a rate greater than before the deal was done so that the extra nominal cost is wiped out?

    Edit - this is over simplified.
    “Still paying, still to owe. Eternal woe! ” ― Paradise Lost, John Milton

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    Politics.ie Member leftsoc's Avatar
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    Quote Originally Posted by ruserious View Post
    When they expect inflation to wipe out the capital costs in 40 years, they have not expanded on the idea that interest will rise to offset that inflation which coupled with austerity could cause a mortgage crisis and a further bailout if the banks are still state owned at that time.

    I won't hold my breath for analysis from RTÉ. TV3 have been superior throuhout.
    Those talking about inflation eroding the value of the repayments are financially illiterate, or as in the case of Michael Noonan with his 1968 house, simply dishonest. We have not the details , but presumably the floating interest rate will ensure that inflation will not erode the value of the repayments due.

    The lack of detail is a clue that this is an even worse deal than it appears on the surface. If we would like the details , they would be supplied. That is self-evident in this age of spin.

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    Politics.ie Member leftsoc's Avatar
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    Quote Originally Posted by Howya View Post
    I posted this on the "other" thread

    A calculation might be useful. Based on imperfect information and making the following assumptions;
    interest rate on bonds is 3.25%
    interest only to 2038
    principl paid down in equal instalments from 2038 to 2053

    Nominal value is approx 65bn
    the nominal value of the old PN was 48bn

    So in nominal terms we are paying an extra 17bn. The question is, can the economy grow at a rate greater than before the deal was done so that the extra nominal cost is wiped out?
    How does growth wipe out the increase in nominal cost?

    Inflation might have, if the interest rate were fixed, but it is not.

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    Politics.ie Member ruserious's Avatar
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    We are completely depending on externalities to make this a good deal. Would you buy a house under these conditions?
    Boycott the "Irish" Sun rag.

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    Politics.ie Member greengoose2's Avatar
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    Quote Originally Posted by ruserious View Post
    We are completely depending on externalities to make this a good deal. Would you buy a house under these conditions?
    Far too many did, hence the current and ongoing mess.

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    Politics.ie Member Spanner Island's Avatar
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    Quote Originally Posted by ruserious View Post
    When they expect inflation to wipe out the capital costs in 40 years, they have not expanded on the idea that interest will rise to offset that inflation which coupled with austerity could cause a mortgage crisis and a further bailout if the banks are still state owned at that time.

    I won't hold my breath for analysis from RTÉ. TV3 have been superior throuhout.
    It's true is that... which is depressing...

    RTE have been abysmal and have basically parroted the government line... as feckin' usual...

    They've explained what's going on alright, but they certainly haven't challenged it or analysed it in any sort of critical way that I've seen or heard...

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