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Property exposure a challenge for banks
UAE banks have reported a 30 to 60 per cent increase in their first half profits. Despite such strong profit growth analysts are questioning its sustainability and the overall asset quality of local banks due to their direct and indirect exposure to the real estate sector.
- By Babu Das Augustine, Banking Editor
- Published: 23:43 August 20, 2008
Dubai: UAE banks have reported a 30 to 60 per cent increase in their first half profits. Despite such strong profit growth analysts are questioning its sustainability and the overall asset quality of local banks due to their direct and indirect exposure to the real estate sector.
As the loan books of UAE based banks continue to swell (averaging 40 per cent a year from 2005-2007), analysts believe the unseasoned nature of the books is causing asset quality numbers to look better than the underlying fundamentals may suggest.
"As the loan books begin to season, we expect an up-tick in non-performing loans. Although current provisioning levels are adequate, we continue to build higher provisioning into our future expectations to account for the seasoning effect," said Deepak Tolani, senior associate, equity research, at UAE investment bank Al Mal Capital.
Many see the growing direct and indirect exposure of banks to the real estate sector could emerge as a big challenge to the asset quality in the event of a real estate market correction.
As the real estate market in the UAE has grown at an exponential pace, the banks have been financing developers, construction companies, contractors, raw material suppliers, as well as the government and public companies that are building the infrastructure to support this growth. Many analysts and rating agencies see such concentration of assets as a potential source of risk.
Vulnerability
"Real estate lending continues to boom, raising the vulnerability of the banking system. If the real estate sector collapses, banks will suffer mightily. But this isn't our base case scenario, because demand for real estate is still high and expected to continue supporting the sector as whole," said Emmanuel Volland, Director Financial Services of Standard & Poor's.
Mortgages and direct lending to the real estate sector should not compromise the asset quality of UAE banks as central bank regulations limit individual banks' exposure to the sector to 20 per cent of their total liabilities. However, in reality the exposure to the sector could be much higher if the overall exposure to construction and construction related activities are added up.
According to the UAE Central Bank, consumer loans have soared more than 55 per cent since the end of 2006, as the country slashed interest rates in line with US rates.
Loans to individuals rose to Dh49 billion at the end of March 2008, compared with Dh31 billion in December 2006. The unprecedented growth in real estate prices has encouraged the practice of using personal loans to purchase off-plan properties for a small down-payment and ride the wave of the price appreciation powered by leveraged returns.
Analysts say such exposures are hard to separate from the personal loans numbers reported from the banks and could be an additional exposure to the real estate sector in addition to the mortgages and loans to the construction business.
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