Bank of Ireland beefs up capital buffers, AIB up next?

* ECB rally, hunt for yield create ideal selling environment

* State-owned AIB faces deep legacy issues

By Aimee Donnellan

LONDON, June 6 (IFR) - Bank of Ireland (Berlin: BIR.BE - news) unearthed over 5bn of demand for the country's first subordinated bond transaction since December 2012, a result that could open a similar path for country peer AIB to follow suit.

On Wednesday, Bank of Ireland, the only Irish lender to escape nationalisation during the crisis, priced a 750m 10-year non-call five issue with a coupon of 4.25%, less than half what it paid for a 10-year bullet 18 months ago.

With such a strong demand for an attractively priced deal, bankers now say they are encouraging AIB to pull the trigger on what could be the next hot deal from Ireland (Other OTC: IRLD - news) as it recovers from the banking and sovereign crisis.

"AIB has a more difficult credit profile than Bank of Ireland but it is the next logical step for the country," said a syndicate banker.

The timing for AIB could prove ideal after the ECB boosted market sentiment by rolling out sub-zero interest rates and other stimulus measures. The risk rally has driven the cost of insuring subordinated debt down by 10bp to 94bp - its lowest level since the beginning of 2008.

Furthermore, investors are willingly accepting far tighter spreads from credits they had previously snubbed, as Delta Lloyd (Frankfurt: 98D.F - news) discovered on Friday morning. The Dutch insurer received orders of 5.7bn for a 750m subordinated deal, when less than two years ago it struggled to place a 500m deal offering investors more than double the coupon it paid today.

But despite the bull market, AIB could face more difficult execution - not least because it cost taxpayers more than 20bn to bail out, the most given to any lender that survived Ireland's crisis. Since then it has been struggling with deep legacy issues with non-performing mortgages.

AIB's proportion of owner-occupiers in arrears for more than 90 days stood at 11.1% at the end of December, while almost a quarter of all buy-to-let mortgage holders were behind on payments for the same timespan.

In contrast to BoI, which has issued right across the capital structure, AIB has only sold senior and covered bonds, and is yet to turn its preference shares into equity or remarket state-owned contingent capital notes.

Subordinated bondholders would be first in the firing line if AIB was to run into trouble again.

But with spreads set to tighten in the coming months, investors are expected to embrace the latest chapter in Ireland's recovery story, and the yield on a high risk bond from AIB may prove too good to pass up.

"Bank of Ireland shows that anything with a bit of spread is just flying out the door these days," said another syndicate banker.

"Conditions are pretty good and the appetite for Tier 2 debt has been really strong," said a syndicate official involved in the Bank of Ireland exercise. (Reporting by Aimee Donnellan; Editing by Alex Chambers and Julian Baker)