Royal Bank of Scotland Group plc (ADR) (RBS), Allied Irish Banks PLC (ADR) (AIBYY): Investing in the New Pillar Banks

Note: This article has been amended to better reflect state ownership in Bank of Ireland.

Investors, or even everyday news watchers, will remember the actions taken by the American government to rescue the banking system and ensure it had sufficient capital in the wake of the 2008 financial crisis. But the process of bank recapitalizations continued in Europe for another few years and only recently was completed in Greece. The result: a series of pillar banks given their positions in the recapitalized banking industry by the governments that rescued them.

Royal Bank of Scotland Group plc (ADR) (NYSE:RBS)

Pillar banks: Ireland

Prior to the economic collapse, Ireland was a hub of financial activity. With low corporate tax rates and membership in the Eurozone, the financial system in Ireland became a centerpiece of the country’s economy. Unfortunately, the Irish financial system managed to inflate a property bubble and, as American investors have also learned, property bubbles rarely have happy endings.

As a result of the mortgages associated with this bubble, the Irish banking industry experienced a system-wide meltdown. Some banks, like Anglo Irish Bank, were deemed too unhealthy to reorganize and the government began to wind them down. But Ireland still needed an overall banking strategy, and the government decided that a system of two pillar banks would be the best way to reform the system.

Among the least wounded of Ireland’s banks were Bank of Ireland (ADR) (NYSE:IRE) and Allied Irish Banks PLC (ADR) (OTCMKTS:AIBYY). Of course this is relative to the condition of the other Irish banks. Both Bank of Ireland (ADR) (NYSE:IRE) and Allied Irish Banks PLC (ADR) (OTCMKTS:AIBYY) still required billions of euros in capital to meet requirements, with Bank of Ireland (ADR) (NYSE:IRE) managing to raise it partially through government and partially through private investment. Allied Irish Banks PLC (ADR) (OTCMKTS:AIBYY), on the other hand, raised nearly all its capital from the government bailout funds, giving the government nearly all of the bank.

But going forward, Ireland will have only two main pillar banks running the system, along with a smaller part of Irish Life and Permanent that will still exist. If Ireland can start to show significant growth again, these two banks could play a larger role in the Irish banking system than they ever could have before due to a sharp reduction in competition. Bank of Ireland (ADR) (NYSE:IRE) may have the upper hand in returning value to shareholders due to its comparatively healthier state to begin with and the fact it still is mostly in private hands (although with a significant government stake of around 15 percent).

While Allied Irish Banks PLC (ADR) (OTCMKTS:AIBYY) may become financially stronger due to this reduction in competition, its nearly complete ownership by the government adds the risk of politics to the mix. This political uncertainty has been seen at Royal Bank of Scotland Group plc (ADR) (NYSE:RBS) in recent months as the U.K. government struggles over what to do with the 81 percent stake it owns. Even though Royal Bank of Scotland Group plc (ADR) (NYSE:RBS) is projected to post profits over the next few years, its shares still trade below what the government paid for them, leading to proposals from politicians ranging from a complete privatization to a complete nationalization. Even if Allied Irish Banks PLC (ADR) (OTCMKTS:AIBYY) starts to post meaningful profits, it could still fall into this government ownership limbo, where Royal Bank of Scotland Group plc (ADR) (NYSE:RBS) finds itself, in which future uncertainty clouds return for investors.

Greek pillars

When investors discuss the problems currently facing the Eurozone, the discussion almost always involves Greece at some point. While the nation itself has been bailed out, Greek banks also needed to be recapitalized in the wake of the crisis. Like in Ireland, Greece decided to create a multi-pillared banking system, but unlike Ireland’s system, Greece’s would have four pillar banks.