The profitability of the region’s banks have come under pressure following due to rising COVID-related loan loss provisions, shrinking margins as a result of the low interest rate environment and slowing loan growth due to economic contraction resulting from the pandemic and low oil prices.
Pressure on profits
There has been a sharp rise in provision with an increase of 76.8 Per cent in the ECL [expected credit loss] charge recorded by the GCC banks in H1 2020, compared with H1 2019.The report also showed higher-than-expected credit losses on loans and advances for the UAE banks with top 10 bans recording an increase of 125.8 per cent in credit losses in H1 2020. The quality of credit exposures has also deteriorated, resulting in an increase in the non-performing loan ratio from 3.8 per cent on 31 December, 2019 to 4.1 per cent on 30 June 2020, for the UAE’s top banks.
The rating agencies have said the profits of GCC bank will remain under pressure due to growth contraction experienced by the economies and the slow pace of recovery. Recent economic forecasts by the International Monetary Fund and the IIF have indicated slower than anticipated economic recovery for the region next year.
Moody’s has forecast an average of 20 per cent decline in full-year profits of GCC banks. “We estimate that lower core income and a spike in provisioning will lead to an average drop in full-year profits of more than 20 per cent for our GCC rated banks and a moderate weakening of their efficiency levels although those remain sound when compared to global standards,” said Badis Shubailat, an Analyst at Moody’s.
Consolidation
Moody’s expect pressures building from the oil price and pandemic shocks will increasingly drive purely financially driven M&A transactions, particularly among smaller banks crowded out by larger competitors.
“Stakeholders’ focus is shifting towards stability, solvency, and liquidity. It remains to be seen whether this will trigger another wave of mergers and acquisitions in the region’s banking sector,” said Abbas Basrai, Partner and Head of Financial Services at KPMG Lower Gulf.
Sound funding and capitalisation
While the banks across the region are well capitalized, they have strong and stable funding sources. According to data from Standard & Poor’s, rated GCC banks continue to display strong capitalization by international standards, with an unweighted average Tier 1 ratio of 17.2 per cent on June 30, 2020. This ratio has been fairly stable over the past three years, but S&P sees this might decline slightly in 2020 and 2021 as the operating environment impinges on banks’ profitability.
S&P sees funding as a relative strength for most of the GCC banking systems. “Core customer deposits are the main funding source for GCC banks and we do not foresee any change in the next few years,” said Mohamed Damak, Senior Director & Global Head of Islamic Finance, Financial Services Research, S&P.
Original news source Credit: gulfnews.com
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