The Irish stock market is cheap, but it’s no bargain

With an economy heavily reliant on a faltering housing market, Ireland's far from being a buying opportunity. And all the positive thinking in the world won't change that.

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Looking for a bargain investment? How about the Irish stock market? It fell 26% in 2007, making it one of last year's worst performers, and now sits on a p/e of 9.5, which looks ridiculously cheap.

At least, it would look ridiculously cheap if it weren't stacked to the hilt with builders. Not to mention banks that would make Northern Rock look like Ebeneezer Scrooge & Co., so lax have they been with their lending criteria. "No deposit? No problem. Here's a 100% mortgage," has been the motto of credit control departments across Ireland for several years now.

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But that generosity is beginning to bite. The economy is slowing, credit is scarce and amateur tycoons bragging about their property fortunes, an integral feature of any swanky Dublin watering hole for several years, have slunk away into the rafters. The housing boom is over. And it could drag the economy with it

The Irish economy loses its lifeline

In 2007, 78,000 homes were built in Ireland, says Allied Irish Bank (AIB), against 88,000 in 2006, putting a minor dent in the diary of many a builder up and down the country. But it's not just bad news for plumbers and plasterers - it could batter the rest of the economy.

House building accounts for about 14% of the Irish economy; and for every 10,000 fewer homes that are built, almost 1% is shaved off the economy's rate of growth. Considering that AIB reckons 50,000 homes will go up this year, that's a sizeable chunk. Davy Stockbrokers is even more downbeat, putting it at 45,000. The broker believes that economic growth will slow to 2.1% this year, from 5.1% last year.

That's the slowest pace since 1993, as Ireland's finance minister, Brian Cowen well knows. The Irish tax take for 2007 fell a full €1billion short of the Irish Department of Finance's expectations, resulting in a €1.6 billion deficit against a near-€2.3 billion surplus in 2006. The slowdown in the property market, and the drying up of the taxes that go with it, are chiefly to blame.

And the slowdown is only going to get worse. House prices in Ireland fell 4.7% last year, 9% when you take inflation into account. And as we all know, no one wants to buy a house if they think it might be cheaper next month than this. That's resulted in a large build-up of houses for sale, putting even more pressure on prices.

"Sellers can no longer expect to achieve 5-10% more than their asking price as they might have up to late 2006,' said Ronan Lyons, an economist at Irish property website "Now at the start of 2008 sellers are typically expected 5-10% less than their asking price."

Are Irish stocks cheap yet?

So clearly it's not the time to buy Irish property. But what about the stock market, where financials and building material companies account for 54% of constituents? According to Goodbody Stockbrokers, AIB is down 36%, Bank of Ireland 42% and Anglo Irish Bank, 32%. "Valuations, in some cases, are at 20-year lows", says the company's head of research, Eamonn Hughes.

So a buying opportunity? Not likely. Taking a look at a history of recessions in other countries over the past two decades, Goodbody's found that Citigroup fell 56% from high to low in 1989, while Merrills fell 57%. In the UK, "Lloyds fell 28% and then 33% in 1991. RBS fell 46% in 1990, bounced and then fell 33% in 1991, then bounced and fell another 33% in 1992. In Australia, ANZ fell 55% in 1990 as its economy stalled." All of which suggests that Irish financial stocks could have a lot further to fall yet particularly as the hard times are only just beginning.

Just as in the UK and the US, overly lax interest rate policies mean that the Irish economy has come to rely on housing to an unprecedented extent. But now that the market has turned, there are 62% more houses up for sale than there were 12 months ago, says property consultant CB Richard Ellis.

If the experience of past downturns is anything to go by, that would mean a 40%-50% drop in prices, said University College Dublin economist Morgan Kelly in a 2006 paper. Unsurprisingly, the Irish perhaps even more so than the rest of us - have "opened the year with a certain sense of trepidation", says Hughes.

Happy thoughts can't save an economy

Meanwhile, across the Irish Channel in the UK, the majority of pundits are still predicting a gentle slowdown followed by a soft landing. "A property crash couldn't happen here," they say. The Americans, the Spanish, and the Irish were all saying the same thing not so long ago yet house prices still fell.

The same will happen here. Just as you can't talk a market down (despite what various vested interests would have you believe about the power of the media), neither can you prop it up by thinking happy thoughts.

By the way, this is one very good reason why if you only make one resolution this year, it should be to sort out your finances. We're heading for a time when having little or no debt, and a pile of cash for emergencies or opportunities, will suddenly be a very desirable situation to be in.

And a good way to get started would be to invest in a copy of MoneyWeek editor Merryn Somerset Webb's Love is not Enough: A Smart Woman's Guide etc'. Despite the title, the book is packed with useful, no-nonsense advice for anyone, male or female, who wants to get a handle on how to pay off their debts, build up their savings, and start investing. The book's out in paperback now - you can buy a copy here.

Oh, and if you missed it, you should have a read at Merryn's latest take on the UK property market: How to survive the credit crunch - sell your house.

Turning to the wider markets...

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London stocks fall on BoE rate freeze

London's blue-chip FTSE 100 index fell back from earlier highs on the Bank of England's decision to keep interest rates on hold at 5.5% (for more on this, see: Bank holds rates - here's why), ending the day 50 points lower, at 6,222. However, there were strong gains for J Sainsbury following better-than-expected results for the Christmas period. For a full market report, see; London market close

Elsewhere in Europe, the Paris CAC-40 fell 34 points to end the day at 5,400. And the German DAX-30 was down 69 points, at 7,713.

On Wall Street, comments from Federal Reserve chairman Ben Bernanke suggesting the possibility of more rate cuts gave stocks an afternoon boost. The Dow Jones added 117 points to end the day at 12,853. The tech-heavy Nasdaq was up 13 points at 2,488. And the S&P 500 was 11 points higher, at 1,420.

In Asia, however, the Japanese Nikkei fell to its lowest level in 26 months - down 277 points to 14,110 - on fears of an economic slowdown. In Hong Kong, the Hang Seng was 363 points lower, at 26,867.

Gold hits new high, pound hits new euro low

Crude oil futures lost nearly $2 on the Nymex yesterday but were on the up again this morning, last trading at $94.35. In London, Brent spot was at $92.70.

Spot gold set a fresh record high of $898.00 this morning before sinking to $893.40 on profit taking. Silver hit a 27-year high of $16.29 today before slipping back to $16.24.

Turning to the currency markets, sterling hit a new low against the euro this morning but had since edged back up to 1.3201. Sterling was also at 1.9501 against the dollar. And the dollar was at 0.6767 against the euro and 109.01 against the Japanese yen.

And in London this morning, troubled mortgage bank Northern Rock agreed to sell £2.2bn of mortgages to US bank JP Morgan Chase & Co., thereby allowing the Rock to pay bacl £2.25bn of the £25bn lent to it by the Bank of England. Shares in Northern Rock were up by as much as 3.75% this morning.

Finally, our recommended article for today...

Japan: don't lose hope

- Japan hasn't been a good call so far, but Merryn Somerset Webb, but she isnt going to abandon it. Why? Because it's cheap - and it could be the one of this year's few safe havens. For more on why you should put your trust in Japan, however long its economic recovery takes, read: Japan: don't lose hope

Jody Clarke

Jody studied at the University of Limerick and she has been a senior writer for MoneyWeek for more than 15 years. Jody is experienced in interviewing, for example in her time she has dug into the lives of an ex-M15 agent and quirky business owners who have made millions. Jody’s other areas of expertise include advice on funds, stocks and house prices.