Last May, Olafur Grimsson, the president of Iceland, addressed the club. The invitation was a recognition of the growing influence of Icelandic entrepreneurs in Britain.
Buoyed by a booming economy at home, Icelandic raiders have bought dozens of British companies in recent years — from food producers and retailers to stockbrokers and airlines (see below). Icelandic-owned firms now employ 65,000 people in Britain.
But now Iceland’s economy is in trouble. Interest rates are soaring — rising to 11.5% last week — and the stock market and the currency are sliding amid warnings that the country is facing a debt crisis.
Questions are being asked about Iceland’s economy and a number of analysts are wondering whether the fallout will spread to Britain.
So should we be worried? Could we see the Icelandic raiders retreat, forced to liquidate investments in Britain as a debt crisis gathers at home?
When Grimsson began his speech to the Walbrook members last May he reminded them that Iceland was the only country to have beaten the Royal Navy — not once but three times in the “cod wars”.
With his glamorous wife Dorrit Moussaieff, a former jewellery designer and socialite, by his side, he said that to understand the strength of his country’s economy you had to understand the psyche of the Icelandic nation.
Back then, Baugur — the investment group led by chief executive Jon Asgeir Johannesson which owns huge chunks of the British high street — had just launched an audacious £1 billion bid for Somerfield, the supermarket chain. The Icelandic raiders were on a roll.
But it is not the overseas buying spree that has sparked the current crisis. It is the flow of “hot money” into Iceland.
With a population of only 300,000, Iceland seems an unlikely destination for some of the world’s shrewdest investors. But Iceland — with its high-yielding currency, shares and bonds — had looked increasingly attractive.
In a simple but nevertheless risky trading strategy — known as a currency carry trade — investors have borrowed at low interest rates in America and Europe and invested in higher-yielding investments in Iceland.
But spooked by February’s stock-market slump and a sharp fall in the value of Iceland’s currency, investors have been pulling out the “hot money” as fast as they can.
As the “hot money” has rushed for the exit, questions have been increasingly asked about the strength of the wider economy — and in particular the financial strength of Iceland’s banks.
In a bearish note last month Richard Thomas, an analyst at investment bank Merrill Lynch, warned clients that a soft landing for the overheated Icelandic economy was not a certainty.
The collapse in confidence was “only the beginning of the Icelandic banks’ problems”, he said. “Icelandic banks are particularly vulnerable to shifts in market confidence. We estimate that the banks have a total of $17.8 billion (£10.4 billion) of debt maturing through to 2007,” said Thomas, who questions whether the banks will be able to refinance the borrowings. “We see significant refinancing risk for the banks next year, unless there is a volte-face in market sentiment in the next six months or so,” he added.
Sigurdur Einarsson, chairman of Kaupthing, Iceland’s largest bank, claimed that Merrill Lynch had simply got it “wrong”. “It is nonsense. Overblown. It is a misconception. There is no crisis,” he said.
Merrill Lynch believes Kaupthing needs to refinance $8.6 billion equivalent of debt in 2006-07.
Eirnarsson also argues that Merrill Lynch and others have overestimated the bank’s exposure to the domestic economy. Having invested in foreign businesses — using foreign capital — the banks have diversified with overseas investments. In fact, Einarsson argues that it is wrong to describe Kaupthing as an Icelandic bank. “We are a European bank,” he said.
But Thomas is not convinced, and reckons that it is actually very difficult to assess the true risk.
“While the banks have diversified their revenue sources by expanding abroad, the risks faced in the domestic market are far from negligible, and they have been compounded by a complex system of cross shareholdings and nominee accounts that make the true risks faced by these banks difficult to qualify.
“The banks appear to often co-invest alongside shareholders and customers in private-equity-style deals that we see as risky given their modest capital bases,” he wrote.
“In a heavily leveraged environment, especially one where there has been a long period of economic expansion, banks start to become more lax in terms of their lending criteria. They continue to lend into the expanding market and take increasing risks. Connected parties aggravate these risks.
“However, as cheap capital becomes less available, the most egregious of these practices should start to unwind. It is the possibility that such an unwinding could be disorderly that worries us,” he added.
Morten Kongshaug, an analyst at stockbroker Danske Equities, believes that a hard landing will force the Icelandic raiders to dump their overseas holdings. As well as buying companies, Icelandic investors have taken substantial stakes in a number of quoted businesses.
“For equity investors the key question is whether Iceland will be able to finance its foreign debt at suitable credit conditions, or whether a debt crisis will occur, causing Icelandic corporates and financial institutions to liquidate their foreign holdings,” said Kongshaug.
FL Group — whose main shareholders include Kaupthing and Landsbanki, another Icelandic bank — has built a 16.5% stake in Easyjet. Fears that the Icelanders may dump their £200m stake have wiped millions off the budget airline’s market value in recent days.
Baugur Group owns a 10% stake in Woolworths and a 13.7% stake in French Connection. Shares in both retailers fell last week. “We will see large-scale liquidation — it will be a domino effect. When one goes it will just roll,” said Kongshaug.
And Thomas warns that assessing the true extent of Icelandic investors’ holdings is not easy. “While we are clear that the banks are heavily involved in domestic equities, it is not so apparent if one looks through their reports and accounts,” he said.
“For example, one will search in vain for any mention in the notes to Kaupthing’s accounts of the fact that it owns 25% of Alfesca, an international fish-product company. Greater transparency in the notes to the accounts would have been welcome.”
To complicate matters further, Thomas believes that shares are frequently pledged as collateral for loans.
In its 2005 review the Iceland central bank warned share collateral had grown to 17% of the market value of the Icex, the local stock exchange, compared with 11% in 2003. Merrill Lynch has estimated this would equate to $2.5 billion of loans.
“Leveraged stock purchases are clearly being made on a growing scale, which could be questionable if equity markets turn down,” wrote the central bank. “There is no doubt that this form of financing contributed to last year’s surge in Icelandic equity prices.”
Additional reporting by James Scoltock
What they own in Britain
AVION GROUP
- Excel Airways, an airline and leisure group
- Really Great Holiday Company, one of Britain’s independent holiday specialists
BAKKAVOR GROUP
- Geest, a fresh, prepared foods and produce company
BAUGUR
- Hamleys, the famous London toy store
- MK One, a fashion retailer for women and teens
- Julian Graves, Britain’s largest independent specialist snacks and ingredients retailer
- Goldsmiths, the second-biggest high-street jewellery retailer in Britain
- Iceland, the high-street frozen-food retailer
- Booker, the wholesale retailer that has 170 branches nationwide
- Shoe Studio Group, seller of men’s shoes.
- Jane Norman, clothes chain for young women; it has 39 high-street shops
- Woodward, a provider of services to the catering industry.
- LXB II, a property development company that rents out or sells to traditional property firms
- Mappin & Webb, one of Britain’s leading jewellers
FL GROUP
- Easyjet, the low-cost airline founded by Stelios Haji-Ioannou and based at Luton airport
KAUPTHING BANK
- Singer & Friedlander, the specialist banking group that offers services in corporate and private banking
LANDSBANKI ISLANDS
- Teather & Greenwood Holdings, a stockbroker with offices in London and Edinburgh
- Heritable Bank, a lender that specialises in property development, residential mortgages and finance for small and medium-sized firms
MOSAIC FASHIONS
- Parent company of the womenswear shops Oasis, Coast, Karen Millen and Whistles
