# "Economic value" versus "market value"



## darag (3 Aug 2009)

I read in today's Irish Times that DoF sources are claiming that NAMA will pay the "economic value" and not necessarily the "market value" for the loans.

This is a new one on me even with my amateur interest in economics.  Market value is one way of establishing economic value; they are not "competing" theories of value.

There is no accepted definition of "economic value" in finance or economics and in fact the debate concerning value models is as old as economics itself.  To show the divergence in this field, one example of a way of calculating "economic value" is to use a variation of Marx's labour theory of value another might use the neo-classical (i.e. capitalist) equating of economic value with the price established in a competitive market.  Both in theory can be used to derive a number to represent "economic value" but obviously both are likely to diverge hugely in the values they derive.

This is like saying "we are not going to use a TOYOTA to get from A to B, we are going to use a CAR" - a Toyota is a type of car so this makes no sense.

I am being somewhat pedantic.  What the DoF source intended to say is clear; we intend NOT TO USE a standard valuation model (using market value, for example) or one that can be subjected to critical scrutiny but instead want to leave ourselves the option of being able to pull figures out of thin air but claim that the value figures are  based on vague and subjective "economic" considerations - not "market" ones - without specifying exactly how their valuation model works.

However, in other ways, I don't think I am being pedantic.  Either the source is completely confused about the relationship between values and valuation models or else it is a deliberate attempt to make their valuation process appear in some way scientific or economically justifiable by using a technical term like "economic value" even if the term is used incorrectly.

The implication of the statement is clear 'though whether you agree with the above or not.  It is intended that NAMA pay MORE than market value for the loans it is going to buy.


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## Padraigb (3 Aug 2009)

I think there is no doubt that NAMA will be paying more than current market value for assets. That is, when you strip away all the surrounding arguments, what it is being set up to do.

Economic value is a slippery customer. It can be related to cost of production, or to income-generation potential, or to use value, or expected (hoped-for) future market value, or a fusion of more than one of those components. You can argue that in recent years the market value of property has been considerably higher than any of these "economic values". 

I think that what is involved now is an effort to justify a valuation that is higher than the current market value. That's a big ask, given that market values might still be too high.


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## Bronte (3 Aug 2009)

Firstly there is no way of judging market value.  No expert can do this.  Market value is what property will sell for and can only be judged by putting the property on the market.  This is not going to happen so we cannot know what the current market value is.

Economic value is just a made up 'concept' basically  two words to mean whatever price we decide.  They can put names on things and try to confuse us but it's really quite simple as OP points out it will just mean at the end of the day a figure plucked purely out of thin air.


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## Duke of Marmalade (3 Aug 2009)

This is the big development since last Friday and as I commented in another thread fully justifies the G20 letter which suggested, against official denials, that it was inevitable that NAMA would have to pay more than market value for these assets.

Standing back from this, the only point in the exercise is to have our main banks viable again, and I certainly support that. Therefore the amount payable by NAMA should be the *minimum* to achieve this on a case by case basis. 

Instead they will cook up some economic model which just gets the worst bank over the line, fair enough, but if consistently applied will result in windfalls for the shareholders of the banks which are not as badly insolvent.

The market cap of the big two is currently €3.5Bn and that is with all the uncertainty. I would not be surprised that after this exercise it will top €5Bn. That is €5Bn of shareholder value produced entirely by the State intervention i.e. by a subsidy from the taxpayers.

I was wrong and the G20 were right and the _Boss_ articulated this very well on RTE yesterday. The government should nationalise (confiscate) the insolvent banks, clean them up just as they are intending with NAMA and then quickly sell them back into the market - the taxpayer in my book would on a like for like basis be €5Bn better off (less flotation expenses etc.).

Also as the G20 pointed out it wouldn't really matter what formula was used or whether one bank got favoured overed another bank, the residual shareholder value would accrue entirely to the taxpayer.

It's not too late, AAM should lead a campaign in support of the G20 argument, now that their premise has been so starkly vindicated.


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## darag (3 Aug 2009)

Which G20 letter is this, Duke?  I'm a bit behind on some of the latest happenings here.


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## Duke of Marmalade (3 Aug 2009)

Letter from 20 economists supporting temporary nationalisation

[broken link removed]


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## darag (3 Aug 2009)

That's a great letter; it's the most lucid and clear analysis of this situation that I've read in a while.

Even tiny enterprises generally start - before wading in - with setting out clearly a goal, looking at the various paths to the goal, describing the pros and cons for each, followed by a clear recommendation on the best path.

It boggles the mind given the financial scale of the problem that the government are unable to articulate what they are doing in such terms.  This could be  deliberate because it has the effect of stifling criticism of the government's strategy and goal as nobody really knows what they are beyond the general platitudes.

The fear is that they cannot communicate it because they don't seemed to have thought about it in such terms; there is no real goal or strategy - it's been treated as a firefighting exercise since mid 2008.  The talk about using "economic value" for the price NAMA is to pay for loans represents a prescription for more of the same; i.e. we will deal with things when they happen.


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## sunrock (3 Aug 2009)

Well if the g20 says to nationalise the banks,the big question is why are our gov. going on their present path. I mean who is advising them or who is directing this path of action.I presume this bunch of solicitors and teachers are not making up this strategy,that could bankrupt the country,by themselves.....or are they?????????


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## Bronte (4 Aug 2009)

darag said:


> That's a great letter; it's the most lucid and clear analysis of this situation that I've read in a while.
> 
> .


 
I totally agree with you.  It makes sense.  

The NAMA solution is exactly the opposite.  Arbitrary prices decided for property, no clear sign that the taxpayer will win, developers bailed out and the bankers stay in place and the shareholders keep their equity and make profits as the banks get stronger.


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## csirl (4 Aug 2009)

> Well if the g20 says to nationalise the banks,the big question is why are our gov. going on their present path.


 
There is a huge flaw in the nationalisation argument. Supporters of nationalisation justify it on the basis that as the State will own the banks, it will be able to sell them for a good price at a later date to recoup its money. This would work fine if we were the only people doing this - the big flaw is that most of the developed world has nationalised banks for the same reasons and is intending to sell them off at a similar time. The glut of of nationalised banks on the markets will mean that there will be zero chance of recouping any meaningful amount of money - simple supply & demand economics. So those countries who've nationalised banks have paid way over the odds for them.

You may argue that NAMA might pay over the odds for property, but we can be 100% certain that any Government that has nationalised HAS paid way over the odds. 

The counter argument to the above is often..."we can hold onto our banks for longer and sell them off at a later date". Problem with this argument is that if the banks stay in State ownership too long, they'll begin to "go native" which will cause even bigger problems and lose even more money. As financial institutions, banks need to operate in the real world, not the public sector.


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## Padraigb (4 Aug 2009)

csirl said:


> There is a huge flaw in the nationalisation argument. Supporters of nationalisation justify it on the basis that as the State will own the banks, it will be able to sell them for a good price at a later date to recoup its money. This would work fine if we were the only people doing this - the big flaw is that most of the developed world has nationalised banks for the same reasons and is intending to sell them off at a similar time. The glut of of nationalised banks on the markets will mean that there will be zero chance of recouping any meaningful amount of money - simple supply & demand economics.



If the banks were to become profitable again, they would be saleable at a price that reflects their level of profitability - simple supply & demand economics.



> ... As financial institutions, banks need to operate in the real world, not the public sector.



I think you are ignoring the lessons of recent history.


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## Bronte (4 Aug 2009)

csirl said:


> As financial institutions, banks need to operate in the real world, not the public sector.


 
NAMA has been created just so the banks who certainly are not operating in any real world that I know of can continue as they are. A couple of guys have left and that's it. No fundamental changes and it's even worse because they now know they are too big to fail and goodness knows what they will now get up to, always safe in the knowledge they will be bailed out by government.


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## Duke of Marmalade (4 Aug 2009)

csirl said:


> You may argue that NAMA might pay over the odds for property, but we can be 100% certain that any Government that has nationalised HAS paid way over the odds.


Please explain. It is widely accepted that nationalisation would mean the State acquiring the banks for almost Nil. The State is going to get the toxic assets anyway but the difference between the current approach and nationalisation is that in the former the existing shareholders will be left with windfall value of about €5Bn which should be the taxpayers.

Nationalisation has all sorts of post war British Labour type connotations. I prefer the term "Recycling". The State could gather up all the current shares by CPOs at their true value which is near nil (without State support). Then it should cleanse the balance sheets with NAMA and refloat the shares. Okay it mightn't get the full €5Bn but anything at all would be a taxpayer bonus.

This share recycling should be done as quickly as possible and need not involve the State in any more hands on management than is envisaged in the current approach. 

It is probably too late for this recycling/nationalisation strategy but as the debate intensifies I see great political pressure to leave very little residual windfall for existing shareholders and this could be achieved by deep NAMA discounts followed by highly dilutive State equity injections.


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## diarmuidc (4 Aug 2009)

Long term conomic value = Political BS spin to convince the Irish tax payer that they are not being ripped off
Market Value = What something is worth


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## csirl (4 Aug 2009)

> Please explain. It is widely accepted that nationalisation would mean the State acquiring the banks for almost Nil.


 
Not quite true. The reason banks are nationalised is because they are insolvant. While the State may be acquiring them for nothing, they end up pumping them full of cash to cover get them out of insolvancy - e.g. UK. So there is a very real and substantial cost to the State of nationalising a bank. Every nationalised bank in the developed world has received substantial cash payment in tandem with nationalisation. The important word here is CASH. Its not bonds or guarantees, its raw cash.


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## Duke of Marmalade (4 Aug 2009)

_csirl_ the banks are going to be bailed out by the taxpayer *under either approach*. Under the current approach existing bank shareholders are going to enjoy a windfall (compared to their proper entitlement which is Nil). Under recycling/nationalisation that windfall goes to the taxpayer.


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## Brendan Burgess (4 Aug 2009)

Darag said:



> It boggles the mind given the financial scale of the problem that the government are unable to articulate what they are doing in such terms.



The government is restrained in what it can say. It can't fully show its hand. 

It also has more information at its disposal than we have. It has seen the books in full. 

No one knows what the current value of any loan is. The market value is meaningless because there is no market. The economic value is dangerous, because it will make some huge assumptions which may well be wildly wrong. 

I am ideologically opposed to nationalisation. Can you imagine a nationalised Irish Life and Permanent making the commercially necessary decision to raise mortgage rates? 

 But I am even more ideologically opposed to giving windfalls to shareholders. Let the NTMA buy the shares in AIB and Bank of Ireland at €1 each. So they can still be run as privately owned banks with at least some layer between the politicians and the management to reduce the political meddling. 

What we are doing at the moment is nationalising the bad bits and leaving the shareholders with the good bits.

Let the NTMA buy the banks and then we won't have to worry about market value, economic value, political value or supervalue. 

Brendan


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## Brendan Burgess (4 Aug 2009)

I have been thinking a bit more about market value vs. economic value. 

If I own an office building which has a firm of accountants as tenants with a 21 year lease paying €100k a year rent with upward only rent reviews. I would guess that it worth around €1.5m giving a yield of around 7%.  But I am not selling it, so the value is irrelevant. 

Now let's say that I have to sell it to reduce the loans I have on some residential development land. The market value today is probably around €1m if I can find a buyer. 

Now let's say that I have to sell it before Friday or else ACC Bank will appoint a Receiver to it. The market value is probably around €500k. 

So if I have a loan on this property of €800k and this loan is going to NAMA, what value should NAMA put on the loan? I would say €800k. 

If I have a loan of €1.2m on the property, what value should NAMA put on the loan? I would say €1.2m 

Brendan


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## diarmuidc (4 Aug 2009)

Brendan said:


> The market value is meaningless because there is no market.


If there is no market; they are not worth anything..



Brendan said:


> But I am not selling it, ....Now let's say that I have to sell it ....The market value today is probably around €1m if I can find a buyer. ... The market value is probably around €500k..... I would say €1.2m



From the sounds of it, it's worth €500k but the more pressing issue is your mental disorder


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## Brendan Burgess (5 Aug 2009)

There are three different markets for this property

1) There is the market where I don't have to sell the property. If someone approaches me to buy it, I would probably sell it for €1.5m

2) There is the market where I am forced to sell the property. 

3) There is the market where I am forced to sell the property by Friday.


In most cases, NAMA will be in market 1). They will not be under any obligation to sell the property and they won't sell properties which have good tenants and good income. They would see a loan of €1.2m on this property, so they don't need to make any adjustment for it. 

Brendan


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## Bronte (5 Aug 2009)

There are very big assumptions that NAMA will hold onto the property for a few years until values go back up.  Why should they automatically go back up, they might decline for the next 10 or 20 years.

The banks and the government are all smoke and mirrors.  I don't trust them one bit and I don't think the government knows what it is doing.  The whole thing is a con job.  

Ivan Yates tried to grill Eugene Sheehy today on NAMA but he didn't get anywhere.  He wouldn't even answer the question on how could a bank have been so over exposed to one developer and how the decison to make those loans was arrived at.  He was pathetic.  These guys will never change.  Is there no one man enough to come out and apologise and hold their hands up and say it was me that made the decision and it was wrong and I should be blamed and take the fall.  

There is absolutley no possibility that NAMA will be able to price a true market value.  Are there any developers currently who have the cash or the possibility to borrow to purchase land banks, I'd say none so the market value is probably closer to nil than anything else.


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## Shawady (5 Aug 2009)

Bronte said:


> There are very big assumptions that NAMA will hold onto the property for a few years until values go back up. Why should they automatically go back up, they might decline for the next 10 or 20 years.


I aggree. If the government value all the property at 50 billion and prices drop by 10% in the next 12 months, the government are behind by 5 billion already.


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## diarmuidc (5 Aug 2009)

Brendan said:


> There are three different markets for this property
> 
> 1) There is the market where I don't have to sell the property. If someone approaches me to buy it, I would probably sell it for €1.5m
> 
> ...



I must be missing something in your argument because from my point of view it's the banks that are selling the property and they are in market 3).


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## Brendan Burgess (5 Aug 2009)

I was setting out the differences between economic value and market value in a hypothetical situation.

The government has intervened in the market to make sure that we are not all thrown into situation 3) which would just completely wipe out the banking system and the economy with it. 

NAMA will make sure that there is not an avalanche of properties on the market at a time when there are no buyers and no banks to fund the buyers. 

Brendan


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## Duke of Marmalade (5 Aug 2009)

The market price of an asset is determined by supply and demand.

If:

1) There is general agreement on the economic value of an asset

AND

2) Markets are functioning efficiently

Then the MP should approximate the generally agreed EP. 

In the case of the current Irish commercial and development property market neither condition holds. Clearly if developers are forced into liquidation there will be a huge supply side technical distortion and it is simply impossible that the demand side would rise to automatically meet this supply "at the economic value".

NAMA attempts to solve both problems. As to (2) it becomes in effect a buyer of last resort so that it can ignore technical supply/demand difficulties and because of this it can dictate the economic value and so overcome requirement (1).


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## Bronte (5 Aug 2009)

In relation to how NAMA is going to apply a 'value' to banks bad loans I see that Lloyds has written of 1.8 Billion of bad debt in relation to it's Irish business.  Does anyone have any idea of what this relates to and what percentage decrease is Lloyds therefore currently atributing to it's Irish property loans?  And also what were these loans/debts originally valued at?  I'm wondering at the percentage drop in property basically.


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## darag (6 Aug 2009)

I'm not sure about this line of thinking, Brendan.  

I would argue that transactions in different markets take varying amounts of time.  If you had a grand worth of share certificates in your hand right now and were asked to turn them into cash in 5 minutes and the only person nearby only had 150 euro in their wallet - that does not establish a market price for your shares at 150 euro.  It takes 3 days at least to turn share certificates into cash - realistically up to a week.  The property market is notoriously slower than the stock market - it typically takes months to turn a property into cash - realistically up to 6 months maybe even longer for commercial property.  

If the NAMA loans were backed by portfolios of shares, you'd value the collateral based on a reasonable amount of time being allocated to complete their sale (a week say) - the same with property (8 months say).  There's a big difference between allowing yourself enough time to complete a sale and taking on a massive position in the stock or property markets hoping for a shift in the underlying markets.

So NAMA, in addition to administering loans would also need expertise in  (property) portfolio management and according to some commentators - property development and marketing also.  Does the country really need a government owned combined bank and property investor/developer?  Sounds like a recipe for disaster.


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## Shawady (12 Aug 2009)

In the case of Liam Carrol, are the supreme court judges basically saying that there is no evidence that there is going to be a up-turn in the proprty market any time soon?
Doesn't this go against the whole idea of NAMA? i.e that the government buys above 'market value' on the basis that proprty will rise to reach it's 'economic value' and tax payer gets its money back.


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## Chancer (14 Aug 2009)

Agree totally with Shawady and the judges. Really the banks have lost a catastrophic amount of depositors', shareholders' and lenders' funds on property inflation, which will not and should not return. Without NAMA, this loss would fall haphazardly on rich & poor alike (remember all the little old ladies whose pensions were their bank share dividends, and the pension funds that bought the sure-fire bank bonds that the banks are now buying back cheap).
NAMA places the burden on all taxpayers but thinking that it eliminates the burden is a fallacy. NAMA won't make a better fist of property investment than a fire-sale speculator, it's just  gamble to conjure up some confidence. The metaphor of the cartoon coyote running 10 yards over the edge of a cliff before he realises it, is a popular one to describe the property bubble. NAMA is like a bird holding up Coyote so he can dash a further 100 yards, but NAMA will run out of puff and fall too, eventually.


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## levelpar (27 Aug 2009)

This whole NAMA business of economic versus market value has given me a great idea .
I might put my house on the market with a price tag looking at a valuation 15 years hence  .The buyer could in 15 years time do likewise .

Anyway, the banks and some others has made such a B**ls of everything ,that the state should take over longterm. 

I would be prepared to take a seat on the board as a representative of Joe Bloggs


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## foinse (29 Aug 2009)

I am a little suspicious.
This government fueled a property bubble.
Who benefited?  - builders and speculators.
Now, would it suit these people if we, the Irish taxpayers, were to pay the current value for these properties? I don't think so.
Would it not be much better for these people if NAMA paid over the odds for them, and released them slowly onto the market, thus, once again, artificially inflating prices.

Would that suit first time buyers and the public in general? No.

The Fianna Fail tent at the Galway races comes to mind!


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## kaplan (30 Aug 2009)

Consider long term economic value and the assets being bought. A loan has a defined maturity date and represents principal and interest payments. Valuing loans is quite straightforward. Surely the maximum amount that can be paid for a loan is its face value + discounted cash flows. It stands to reason that long term economic value cannot be greater than the NPV of a performing loan subject to say to a discount for default risk. If so then what price will NAMA pay – surely it has to be the market value of such loans. If so then how can NAMA rely on good loan interest income to cover its costs? Unless it builds in an additional margin into its discounting rate.   

NAMA is buying loan assets and not property. It will buy two types of loans – the first category are performing, the second non-performing. How should non-performing loans be valued? Enter long term economic value – 

Will it work like this?
Good loan:
Face value 100m, interest only 3.5% remaining term to maturity 7 years. Price = 100m + NPV (with imputed default risk) of future interest income at €3.5m per annum. It could factor in its cost of funds & outsourced administration fees. 

Bad Loan:
Take an interest only loan of €100m granted in 2007 for 10 years that defaulted in 2008. Add 24 months interest roll up at say 3.5% (no penalty charge). The face value today is €107m. The value of collateral at issuance stage was €120m which has dropped in value by 50% and now worth €60m – but in a fire sale is likely to fetch €30m. A prudent banker would call in the loan and write it down to the value expected to be achieved through a receivership process which is somewhere between 30 & 60m depending on its view. Let’s say its €45m. The €107m loan is now crystallised at €45m yielding a loss of €67m or 63%. 

But NAMA steps in before the loan is called in. What price does it pay? If the long term economic value of the loan asset is a function of existing face value + future interest income then surely the loan in default cannot have a long term economic value as it has no future interest flows – what it has is the value of realisable collateral (insurance) underpinning the loan. So NAMA will make a call, loan by loan, and estimate the value of realisable collateral which will comprise mostly property but also a mix of other assets. Leaving aside property for a moment – how will NAMA value a portfolio of shares or bonds? Add a twist how will it value Irish bank bonds or bank shares? 

Within a borrower relationship will be good loans and bad loans sitting on different banks balance sheets. Is it the case that NAMA may bundle the loans by bank – ie buy the good loans & bad loans as one package from Bank A. In which case the price paid will be a factor of the good loan and bad loan value. It cannot call on the collateral of a stand alone good loan but may have a call on assigned rents – where there is a surplus and allocate this to the bad loan. It may have a call on the collateral of a good loan if used to secure the bad loan. If it calls the collateral then the good loan becomes bad – ie 100m good, collateral 120m. 150m bad, collateral 70m shortfall €80m. Total exposure 250m collateral 190m – rental stream can only service 100m. There will be many cases like this in the mix of loans bought. How will NAMA treat upward only rental agreements? Its interest will be served in insisting on rent increases on both commercial and residential properties  

Within the non-performing loans will be collateral comprising property assets of varying values -the continuum between the fallow field and the completed building. In the example the collateral value can be anything from agricultural land price (which is already too high) and the value of a completed building, NAMA prudently reckons it may be based on long term –excluding property bubble – prices and an informed view of the likely market once “liquidity” has been restored which of course means it has a view on when economic stability will be achieved and when growth will recommence etc. 

Say it gets lucky and the value of the underlying collateral rises to €120m in the next 5 years. For five years NAMA has funded a non-performing loan of €107m at a cost of 1.5% & administration, legal and outsourced management costs of e20bps per annum (all things being equal) which means the loan now stands at €115m plus costs of €1m - the amount owing now stands at €117m. But what’s the accumulated interest on the €107m? It depends on the loan contract’s rate to be charged on repayments in default and a called in loan – say it’s 8% - the interest due and payable will have accumulated to €57m. 

So does NAMA make a profit? It’s entitled to €164m & costs of €1m which is a loss of €45m on the sales price of €120m. Of course NAMA may only cost in its cost of funds of 1.5% which would mean ignoring its legal entitlement to interest at 8%. So how does it value the bad loan today – is it worth €120m (LTEV 1.0) or €165m (LTEV 2.0) 

Now Government’s economic advisor has said NAMA will break even and may even make a profit. How can it profit from a loan? Unless that is its margin will be higher than the margin implicit in the price it pays for good loans and it charges the default interest rate on bad loan contracts. Not to charge the latter would amount to letting the borrower off the hook. It may of course enter workout agreements ie funding completions etc on a profit sharing basis in which case it may realise a decent margin. 

In summary then bad loans will lead to a loss or a workout. The exact mix of collateral – the fallow field to completed building is unknown at this time. Future loan bad loan values will rise depending on interest treatment at a rate that for NAMA to profit must be less than the rate of increase in property values for the collateral/asset held. 

Of for that matter how will it value the guarantees provided by the private equity investors €20bn in defaulting loans. ( I suspect that NAMA will be involved in work out agreements will include substantial write downs of loan values)


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## Askar (30 Aug 2009)

There are some very good points being made about NAMA over on the irisheconomy.ie blog - if you are interested OP.

To assert that there is currently no market is simply incorrect - supply is currently exceeding demand and the price of property if left to its own devices would reach its equilibrium - be that €1 or €1million euro for any particular asset - at some price a buyer will pay for the asset. That is the way that a truly efficient market would operate in practice. 

There is no such thing as an 'efficient market' in most real world scenarios and that particularly holds true for the irish property market which has always suffered from government intervention in supply side tax breaks and dubious/corrupt planning processes. Valuations always seemed to me to be based on a false concept of scarcity. 

Imo 'economic value' is simply a 'fiction' to set a floor price on property values and the 'right' valuation method is the one that gives the right answer. It intends to maintain the scarcity concept since the market will not now be even more oversupplied, and presumably NAMA will be setting marginal prices of various forms of property assets for the foreseeable future - since it will have capacity to turn on and off supply of its property portfolio; with the intention of seeking a recovery in property values.


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## steviel (30 Aug 2009)

Askar said:


> To assert that there is currently no market is simply incorrect - supply is currently exceeding demand and the price of property if left to its own devices would reach its equilibrium - be that €1 or €1million euro for any particular asset - at some price a buyer will pay for the asset. That is the way that a truly efficient market would operate in practice.
> 
> ...'economic value' is simply a 'fiction' to set a floor price on property values and the 'right' valuation method is the one that gives the right answer.



That is much too simplistic a way of looking at a market.  A market does not function in the absence of liquidity, such as we have now.  For a simple example, take a residential house.  It was €400k and is now €200k.  I think it is a great deal, and want to buy.  But i cannot get the finance from the bank, and neither can other buyers.  Therefore no-one buys, and the price drops below that which people thought was a good deal, and at which they would have bought.  So it drops further to €100k.  Liquidity returns, as it inevitably will, and suddenly there is a stampede to buy a house well below its fair value, and the price goes through the roof due to the demand.  Illiquidity makes prices overshoot fair value on the downside, in the same way as too much liquidity (as we saw for the last 10 years) makes them overshoot fair value on the upside (as too much savings, pension, fund management money chases too few yielding assets like commercial real estate)

Commercial real estate is the same.  Only a part, likely a relatively small part, of the falls we have seen are due to liquidity, or lack thereof, but the government is trying to remove that part of the depressed valuation which is due purely to illiquidity to find a 'fair value' or 'economic value'.  The concept is not completely a fiction.  If someone believed assets to be overpriced on the upside, i dont understand why that same person cant believe that the same issues work in reverse, and real estate is now in fact underpriced on the downside.


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## Askar (31 Aug 2009)

steviel said:


> That is much too simplistic a way of looking at a market. A market does not function in the absence of liquidity, such as we have now. For a simple example, take a residential house. It was €400k and is now €200k. I think it is a great deal, and want to buy. But i cannot get the finance from the bank, and neither can other buyers. Therefore no-one buys, and the price drops below that which people thought was a good deal, and at which they would have bought. So it drops further to €100k. Liquidity returns, as it inevitably will, and suddenly there is a stampede to buy a house well below its fair value, and the price goes through the roof due to the demand. Illiquidity makes prices overshoot fair value on the downside, in the same way as too much liquidity (as we saw for the last 10 years) makes them overshoot fair value on the upside (as too much savings, pension, fund management money chases too few yielding assets like commercial real estate)
> 
> Commercial real estate is the same. Only a part, likely a relatively small part, of the falls we have seen are due to liquidity, or lack thereof, but the government is trying to remove that part of the depressed valuation which is due purely to illiquidity to find a 'fair value' or 'economic value'. The concept is not completely a fiction. If someone believed assets to be overpriced on the upside, i dont understand why that same person cant believe that the same issues work in reverse, and real estate is now in fact underpriced on the downside.


 
I think we will have to agree to disagree. I have spent enough years investigating and analysing workings of various markets to form the view that the more markets are actually allowed to work without interference the better, from a societal welfare perspective. 

Implicit in much of what you is that there should be some optimal liquidity level for markets. Perhaps you can direct me to some economic papers in support of this. Also, what does 'fair value' mean? As far as I know there is no economic consensus on what is 'fair' and 'reasonable' in terms of pricing for markets. These are artificial constructs. It is simply what the real market will bear. Eventually price equilibrium for supply/demand is found - despite periods of overpricing and underpricing. 

Even with the current price correction average yields on residential properties are only at 3.3% (per Independent to-day). How can this be underpriced on the downside? Also, what intervention was there when there was overpricing on the upside. One of the authors of Bacon III pointed out on irisheconomy website that their report stated that pricing of house values was 'inexplicably high' and that was presumably before significant subsequent house price appreciation, yet the government sought to do nothing.

If we were to follow the logic of your argument we should have state support for the motor industry as liquidity has dried up there also (new car sales are 73% down). Indeed, the taxpayer should be providing supports for every other industry faced with fewer buyers in the current downturn. 

In fact there is more than a little irony to this thread - since I had always understood that AAM policy was not to discuss property values as we simply could not know what is the correct price - yet now views are being expressed abour correct or economic valuations. Surely, a consistent approach would be to state that such valuations are impossible and the market must find its own level? 

This, of course, will be rendered impossible by the effective nationalisation of development land banks etc. where the State will be even more active in controlling supply and maintaining artificially high property values through the concept of 'economic value'. 

I do not see how this benefits Ireland inc.s cost base and competitiveness. But maybe the banks, politicians and civil servants understand this better than I can; but I would certainly like to know how this is the case.


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## canicemcavoy (31 Aug 2009)

Askar said:


> In fact there is more than a little irony to this thread - since I had always understood that AAM policy was not to discuss property values as we simply could not know what is the correct price - yet now views are being expressed abour correct or economic valuations. Surely, a consistent approach would be to state that such valuations are impossible and the market must find its own level?


 
Is there a definition of what constitutes "discussion" of house prices? I find this Internet-famous rule of AAM's a bit baffling as well. I was upbraided for saying that current prices are too high and the post was removed. However, a post saying that current valuations are crazily low is left up:

http://www.askaboutmoney.com/showthread.php?p=909768#post909768

Can anyone explain what the rule means exactly.


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## Askar (1 Sep 2009)

looks like Lenihans concept of LTEV does not exactly square with more conventional and established valuation techniques
[broken link removed]


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## darag (2 Sep 2009)

So the government have hired Jones Lang LaSalle head boy John Mulcahy to advise NAMA on property valuation.

So an Irish auctioneer will have a hand in determining the prices NAMA pays for loans?  I would have thought that, at least for appearances sake, they might have gotten someone who had not been intimately involved with (and profited from) the Irish property boom.


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## canicemcavoy (2 Sep 2009)

darag said:


> So the government have hired Jones Lang LaSalle head boy John Mulcahy to advise NAMA on property valuation.
> 
> So an Irish auctioneer will have a hand in determining the prices NAMA pays for loans? I would have thought that, at least for appearances sake, they might have gotten someone who had not been intimately involved with (and profited from) the Irish property boom.


 
Or someone who wasn't talking up commercial property at the height of the bubble in 2007.

I can't say I'm the least bit surprised, and indeed it could have been worse; Lenihan could have appointed Gerry Ryan or Liz O'Kane.


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## Vega (2 Sep 2009)

So they're going to predict the future value of property! How can anyone predict the future?  Even the assumption that property prices will defintely rise again soon is patently flawed e.g. the Japanese housing crash.

Also Mr Lenihan stated that he feels we have reached the trough already!  What if his crystal ball is wrong (again)?  This seems so high-risk.


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