Dubai: Profitability of Gulf Cooperation Council (GCC) banks are expected to improve this year after going through a slowdown last year according to banking industry analysts and rating agencies.
“Earnings in GCC may show a growth of 5.9 per cent 2017 after a slight compression in 2016 of 3 per cent, with return on equity (RoE) stabilising at 13.1 per cent,” said Jaap Meijer, Director of Research at Arqaam Capital.
Although the operating environment for banks in the region remains challenging, the banking sector is expected to benefit from oil price stabilisation.
Economic growth is projected to remain positive with a GDP growth of 2 per cent next year, slightly above 2016 level of 1.9 per cent. GCC countries are expected to continue posting fiscal and external deficits, which will lead to fiscal reforms, according to Moody’s.
“While operating conditions for banks in the GCC remain challenging, the stabilisation of oil prices — albeit at a low level — and resilient non-oil sectors will moderate pressures on the banking sector from slowing economic growth, fiscal reforms and spending cuts,” said Olivier Panis, a Vice-President at Moody’s.
While oil prices expected to hover in the range of $50 to $55 a barrel this year, low oil prices continue to pressure bank liquidity and are also taking their toll on asset quality and earnings of banks across GCC, according to Fitch Ratings. The rating agency has a negative outlook on 30 per cent of its rated banks GCC region; most others are on stable outlook.
“The negative outlooks are largely driven by sustained low oil prices, which weaken sovereign ability to provide support and rationalise government spending, ultimately affecting banks’ financial metrics. This does not in any way reflect lower sovereign propensity to provide support,” said Redmond Ramsdale, Senior Director, Financial Institutions at Fitch Ratings.
Analysts say the outlook will remain challenging in relative terms as weaker economic growth will feed through to credit fundamentals.
“The end of the commodities boom has also increased the pressure on GCC banks’ asset quality and profitability indicators. While we expect to see further weakening in some of these indicators in 2017-2018, we think that GCC banks have built sufficient buffers to make the overall impact on their financial profiles manageable,” said S&P global Ratings credit analyst Mohammad Damak.
Over the past one year loan growth to private sector has taken a beating. Growth in lending to the private sector halved to 5 per cent on average as of September 30, 2016, compared with 10 per cent in 2015. In 2017-2018, S&P analysts expect this situation to continue as the government’s policy response to lower oil prices continues to take the form of spending cuts and the postponement of infrastructure projects.
Deposit growth is expected to slow further in 2017. This will increase banks’ reliance on more costly and confidence-sensitive time deposits and market funding, increase loan-to-deposit ratios and drive higher funding costs.
Lower oil revenues are leading to a decline or slowdown in government and related entity deposits and lower economic growth also means broad reductions in corporate and retail deposit inflows. However, recent international bond and sukuk issuances from Abu Dhabi, Oman, Qatar and Saudi Arabia have helped to moderate liquidity pressures, and most regional banks maintain strong levels of liquid assets, eligible as collateral at central banks in case of need.
Analysts expect capital cushions will remain solid and provide substantial loss-absorption capacity. Liquidity buffers are expected to remain solid despite a slight decline. Currently, liquid assets are 20 to 30 per cent of total assets and the vast majority of banks are compliant with Basel III Liquidity Coverage Ratio requirements. Government support willingness remains high but capacity is facing pressure.
While core banking revenues are expected to remain resilient next year, banking sectors across the region are facing lowing credit growth and overall revenue are expected to come under pressure. However, overall, the regional banks are expected to witness improved margins.
Overall cost of funding is expected to increase due to lower liquidity, a direct consequence of the low oil prices and increase in interest rates. Growth in customer deposits slowed to 2.4 per cent in the first nine months of 2016, compared to 5.4 per cent in 2015, for banks in the GCC. But this situation is somewhat counterbalanced that GCC banks’ funding profile remains strong by international standards. It is mostly dominated by core customer deposits, while the use of wholesale funding remains limited, except for a few large and sophisticated issuers. The GCC banking system’s loan-to-deposit ratio averaged 91.0 per cent at September 30, 2016, compared with 88.8 per cent at year-end 2015, ranging from a high 116.9 per cent for Qatar to a low 54.2 per cent for Bahraini retail banks.
“Net interest margin (NIM) compression should end in 2017 as US libor increases, with mostly positive asset — liability gaps and endowment effects kicking in. Moreover, credit and deposit growth are better aligned, and as such funding mix should remain intact,” said Meijer.
