So farewell, B&B

This morning's newspapers report that the Treasury is on the verge of nationalizing the Bradford and Bingley. Government intervention is inevitable. On Saturday, the bank experienced significant withdrawals of cash from its branches and online bank. By Monday, withdrawls would have snowballed into a full-scale run.

The bank reached the end of the road on August 29 when it published its half yearly interim results. Few were surprised to hear the bank report losses of ₤26 million. The arrears situation was deteriorating. The share price kept falling. Despite the recent rights issue and management claims of being well capitalized, no one was buying the happy talk from the B&B management. Last week, the credit rating agencies acknowledged that the bank was in trouble and belatedly downgraded the bank.

Thankfully, the B&B isn't in quite the same league as Northern Rock. As of June 30, the bank held about ₤52 billion of assets, of which around ₤39 billion are loans. Most of the loans are to buy-to-let customers. In terms of liabilities, the bank have some ₤20 billion in retail deposits. The Treasury should find this nationalisation less traumatic.

The real difficulty with B&B is the lending book. While the B&B had its own "organic" loans, which it generated through its own branch network, it also had a large amount of acquired lending; loans it bought from other institutions. The arrears numbers on these acquired loans are horrible. The bank also dipped deeper than most into the self-certification loan market. The arrears rate on these loans is high and rising. It is a lending book that will deteriorate further as the economy slows and borrowers run into payments difficulties.

According to media reports; the B&B's loan book is likely to stay on the government books for long time. The Treasury appears to have the good sense to understand that fire sale of bad loans would not be in the best financial interest of taxpayers. As for the retail deposits, the government will auction them off to the highest bidder.

I am curious how this latter transaction will work. Deposits, are of course, liabilities to banks. Presumably, these liabilities will be backed up by some form of government paper. It is just a guess here, but if this is how the Treasury will arrange this sale, then the B&B will add around ₤20 billion to government debt.

A second issue will be the remainder of the B&B's liabilities. Will the creditors receive a government bailout, or will they have to wait until the B&B is liquidated?

The demise of the B&B is a serious blow to the buy-to-let business. In future, investors will need to receive a significant risk premium if they are to be persuaded to invest in specialist BTL investors.

The end of the B&B also rules out any serious possiblity of banks recapitalizing via rights issues. Anyone who invested in the B&B earlier this summer would have literally thrown their money away. Investors won't make the same mistake again.

Like the NRK failure, the end of the B&B marks a major turning point on the road towards deflating the UK's housing bubble. Just as the NRK collapse signaled the end of the high LTV retail mortgage; the B&B signals the end of BTL loans to highly leveraged small time speculators.