Dubai: The overall health of the banking sector in the UAE is expected to remain sound because of their strong initial financing positions and the resilience of the economy in the face of the sharp decline in oil prices, according to the Institute of International Finance (IIF), a Washington based association of global financial institutions.
The strong profitability of the banks during the last two years and the balance sheet strength built over the past six years through rigorous provisioning for bad debts is expected to keep the banks strong against any potential weakening of asset prices that could result in a jump in non-performing loans (NPAs).
UAE banks posted double-digit growth in net profits last year and maintain healthy capital adequacy ratios and high provisions on bad loans. Although NPLs declined significantly from 8.1 per cent of total loans in 2013 following a reclassification of Dubai World the ratio still remains high at about 6 per cent.
Asset quality, liquidity and capital adequacy levels of UAE banks remained strong at the end of the first quarter of 2015 despite a challenging business environment characterised by a sharp decline in oil prices and a strong dollar that affected some key business sectors such as tourism, hospitality, retail and to some extent real estate and construction. Most banks continued the trend of decline in impairment losses in the first quarter of this year with significant improvement in the non-performing loans (NPL) ratio on account of a decline in NPLs and an increase in the size of balance sheets.
The slump in oil prices has affected financial markets in most oil-exporting countries. Equity markets in the UAE declined sharply in the second half of 2014. The real estate market, particularly in Dubai, also witnessed some easing. The slowdown in real estate prices is also due to higher transactions taxes, tighter mortgage lending restrictions and lower demand from foreign investors, particularly from Russia, India, and other countries whose currencies have depreciated against the US dollar.
Residents and non-residents
The IIF has warned that lower asset prices could have implications for the asset quality of banks. “If the real estate prices and the equity market decline further then the asset quality of banks would deteriorate and profits would be squeezed,” said Garbis Iradian, Chief Economist of IIF.
Lending and monetary growth rates have remained high in the past two years. Loans and deposits (to residents and non-residents) grew by 8.2 per cent and 8.8 per cent, respectively, from a year earlier in March 2015. Non-resident deposits, which account for about 10 per cent of total deposits, grew by 28 per cent.
“UAE banks will continue to be supported by solid increases in public infrastructure spending — although at a slower pace than in the past decade — which was the main driver of non-hydrocarbon real GDP growth, bank loans and profitability,” said Iradian.
But going forward, tighter government revenue from oil exports is expected to squeeze liquidity in the banking system and NPLs could increase slightly. With the strong capitalisation and liquidity levels and high provision levels maintained by banks potential risks are seen within manageable limits.
“The Central Bank of UAE has made significant progress in implementing Basel III and related regulations. Financial stability risks — including from domestic vulnerabilities in the real estate market as well as from lower oil prices — appear contained, given the adequate liquidity, high provisions on NPLs and prudent regulation by the central bank in recent years,” said Iradian.
