Dubai: The sustained growth in retail lending is a key source of strength for Saudi banks and that has largely mitigated the impact of the pandemic on their financial profiles, says rating agency Fitch.
“The retail segment supported the sector’s asset-quality metrics in 2020, and we expect it will soften the impact of an adverse operating environment for Saudi banks. Austerity measures, rising unemployment and weaker consumer confidence are the key risks,” said Amin Sakhri, an analyst at Fitch Ratings.
Retail lending has been a high-growth segment in Saudi Arabia in recent years and a key driver behind sector growth. Fitch Ratings expects it will continue to be so, as banks’ retail appetite remains high.
Growth and returns
Despite the pandemic, Saudi banks reported an 11.5 per cent credit growth for the sector in the in the first nine months of 2020, largely driven by 41 per cent growth in retail mortgages.
“We expect fast growth in this segment to continue, underpinned by strong credit demand and support from the authorities,” said Sakhri.
Various factors support the high growth, including strong margins on retail products and the Saudi government placing home ownership at the centre of its Vision 2030 strategic plans. This has led to vast programmes of government subsidies that boost margins and guarantees (since 2017) for retail mortgages.
“Returns on retail portfolios are supported by unusually low funding costs, with retail loans largely funded by retail non-interest-bearing deposits (NIBs). The absence of caps on retail loan pricing also contributes to high margins,” said Sakhri.
Banks with a larger portion of retail lending therefore have profitability metrics at the higher end of the sector. The three largest retail banks – which account for over two thirds of the sector’s retail lending – had an average operating profit/risk weighted assets ratio of 2.9 per cent in the first nine months of 2020 against the sector average of 2.2 per cent.
Saudi banks have been actively chasing retail lending as a result, adjusting their strategies and increasing their appetite for this segment. Retail lending accounted for 38 per cent of total lending at end of the third quarter of 2020, up from 31 per cent at end-2016.
Lower risks
Relatively lower risks in retail portfolios is a main attraction for banks. The increasing proportion of retail lending largely benefits the banks’ financial and risk profiles, due to inherently lower impairment levels than the corporate segment, as well as lower risk-weight requirements (50%–75%), which enhance the banks’ risk-adjusted returns and regulatory capital ratios.
The retail segment supported the sector’s asset-quality metrics in 2020, and we expect it will soften the impact of an adverse operating environment for Saudi banks. Austerity measures, rising unemployment and weaker consumer confidence are the key risks.
Government guarantees and subsidies further underpin lower risks. Risk appetite is lower at retail-focused banks due to the inherently lower-risk nature of this segment. Asset-quality metrics are stronger. Retail lending also supports higher performance, lower impairments and lower concentration risks.
The combined effects of coronavirus pandemic-related economic disruptions and low oil prices have put pressure on the operating environment. The government’s efforts to stick to its budget were challenged by the pandemic, resulting in austerity measures emerging in the second and third quarters of 2020. These included the cancellation and capping of some subsidised interest rates on certain real estate programmes, a review of the highest-paid civil servants’ salaries and the tripling of VAT. The escalation of these measures, including redundancies, salary cuts in the public space and lower subsidies could pressure retail growth and affect the sector’s asset quality. This analysts said would probably reduce consumer confidence and demand for retail loans.
Favourable demographic features underpin the strong potential for growth of the retail market, and mortgages in particular. Over 65 per cent of the Saudi population is aged under 35, and the population is expected to grow to 39 million by 2030.
According to a survey by Knight Frank (Saudi Arabia National Housing Survey 2020, September 2020) in 2020, about 56 per cent of tenants are looking to buy a property in the next five years, underpinning the expected strong demand for mortgages.
Growth in retail mortgages is expected to come from the affordable segment, which includes properties valued at less than SAR1 million. These mortgages typically benefit from higher government subsidies. For instance, those with a monthly income of up to SAR14,000 benefit from full subsidies on interest payments.
The bank with the largest Islamic franchise globally, Al Rajhi Banking and Investment Corporation (ARB), is based in Saudi Arabia, and retail financing accounts for 76 per cent of its total financing. However, its total assets are smaller than The National Commercial Bank’s (NCB), also based in Saudi Arabia, although NCB is still to complete its Islamic conversion.
