Banks in Saudi Arabia and Qatar are better placed than Gulf Cooperation Council (GCC) peers to cope with an eventual deterioration in asset quality brought about by a prolonged period of weak oil prices, says Fitch Ratings.
Fitch’s base case is that GDP will continue to grow in 2017 and 2018 across all GCC countries and we forecast a gradual rise in oil prices to $55 a barrel by 2018.
Nevertheless, Fitch examined the impact of lower for longer oil prices on asset quality across the region and concluded that loss-absorption capacity in the Saudi banking sector ranks highest among GCC countries and that both Saudi Arabia and Qatar would continue to offer the soundest lending opportunities under that scenario, suggesting impaired loan ratios should increase more slowly in these countries than their peers.
The operating environment is a positive ratings factor for banks in Saudi Arabia, Qatar and the UAE.
The ratings agency said business opportunities are strongest in Saudi Arabia and the UAE, reflecting the countries’ larger and more diversified economies. In Qatar, Fitch is not expecting any significant cuts to government spending and numerous government-sponsored projects continue to provide profitable, low-risk, lending opportunities for banks.
Relative to GCC peers, the operating environment has a neutral impact on bank asset quality in Kuwait, where it expects little change to government spending patterns, while in Oman and Bahrain, it weighs negatively on asset quality reflecting the smaller scale of public-sector spending and indirectly fewer lending opportunities in those countries.
“Our loss-absorption capacity assessments hinge on three components. In the first instance, we analyse existing loan-loss reserve coverage across GCC banking sectors to determine the extent to which excess reserves could be used to cover unexpected losses.
“Loan-loss reserves at Kuwaiti banks, for example, represented 260% of impaired loans at end-2015, the highest GCC coverage ratio, and the sector’s excess reserves, which we define as all reserves exceeding 100% of existing impaired loans, were equivalent to 2.5% of total loans on a weighted average basis. This means that banks could maintain full coverage of impaired loans if impairments grew by this amount,” Fitch said.
“Secondly, we analyse the ability of banks to build up capital internally from retained earnings. GCC banks are profitable, reflecting high interest margins and low costs, and are capable of generating pre-impairment profits equivalent to at least 2.5% of gross loans each year. This ratio is a high 3.8% for Saudi banks, followed by 3.6% for UAE peers, signalling a strong ability to write new provisions, if required.”
Lastly, Fitch look at the existing amount of excess regulatory capital held by GCC banks.
Saudi, UAE and Bahraini banks report regulatory capital ratios far higher than the minimum prudential requirements, with excess amounts respectively equivalent to 8.5% (Saudi Arabia) and 7% (the UAE and Bahrain) of gross loans. Regulators generally ask banks to hold extra capital buffers and we are not suggesting that GCC banks would operate at minimum capital levels, but we think some of the excess capital could be used to absorb unexpected credit losses if required.
Fitch’s assessment of the resilience of GCC banks’ asset quality also considers concentration risk, exposure to government-related entities and business mix.