Dubai: GCC banks continue to operate with healthy profitability metrics despite the low interest rate environment they have been operating.
Banks continue to face low net interest margins (NIMs) due to low rates and margin squeeze on account of competition. NIMs have contracted by over 25 basis points in the past five years. The return on average assets for the 26 banks S&P rate was close to 1.85 per cent at the year-end 2014.
“Banks continue to benefit from their good efficiency, with a low cost of labour, limited distribution networks, and the absence of income tax. In the meantime, we expect some decline in profitability in 2015 and 2016 as the squeeze on margins continues and as credit losses begin to gradually increase from their current levels,” said Standard & Poor’s credit analyst Timucin Engin.
Gulf banks continue to operate with healthy funding and liquidity metrics. The ratio of loans to deposits for all the rated GCC banks was 83 per cent at year-end 2014. At the system level, Kuwait and Saudi Arabia have the lowest ratios.
Rated GCC banks also maintain robust levels of liquidity. As of year-end 2014, about 18 per cent of banks’ balance sheets were in the form of cash and money market placements, with another 18 per cent in the form of a securities book predominantly comprising highly rated GREs [government related entities] and corporate paper with terms of less than five years.
Customer deposits continue to be the main source of funding for GCC banking systems, and government and GREs are important providers of funding in the local deposit markets.
“Given our expectations for oil prices to remain relatively weak through 2016, we also expect deposit growth in this sector to slow due to somewhat of a decline in the cash generation of GCC governments and GREs. As a result, liquidity at local banks is set to gradually decrease. However, key GCC sovereigns are cash-rich, and could continue to support local deposit markets if needed,” said Engin.
GCC banks traditionally operate with high levels of capitalisation. Most banks have regulatory capital adequacy ratios well above requirements under the Basel III. “Gulf banks historically have not issued hybrid capital instruments, and the bulk of their Tier 1 ratio comprises core Tier 1. Over the past two years, we saw a gradual pickup in hybrid issuance because of attractive prices, which have allowed banks to optimise return on equity. We expect this trend to continue this year, particularly in the UAE, Kuwait, and Qatar,” said Engin.
