Non-GCC lenders remain resilient

Published in MEED, 30 November 2016

Banking markets outside the Gulf have prospered even amid strong political and economic headwinds

On 6 November, Al-Ahli Bank of Kuwait (ABK) launched its Egyptian operations with the opening of a branch in central Cairo, following the $150m purchase of Piraeus Bank Egypt a year earlier and its subsequent rebranding.

It is one of several takeovers in Egypt since 2012. Other deals have included French banks BNP Paribas and Societe Generale selling their Egyptian assets to Dubai-based Emirates NBD and Qatar National Bank respectively. Another deal is currently going through – Morocco’s Attijariwafa Bank is in the process of buying UK-based Barclays’ local operations. It adds up to a solid vote of confidence in the Egyptian market by institutions from around the region, even if bigger international lenders are keen to head for the exit.

Speaking at the opening of its first branch in Cairo’s upmarket Zamalek neighbourhood, ABK Egypt chairman Ali Marafi described the local market as “well-regulated yet underpenetrated”. The latter point is certainly true – there are less than five branches for every 100,000 adults in Egypt, according to the World Bank – but that does not mean it will be easy for the new entrants.

Risky investment

Laila Sadek, director for financial institutions at the US’ Fitch Ratings, notes that Egyptian banks’ margins are high, averaging 3.7 per cent, but “investing in one of Egypt’s banks can be risky because they operate almost entirely in the volatile domestic market. The overall economic environment remains difficult and this poses a challenge to the banking sector”.

Some words of warning are also in order for several other non-GCC banking markets, such as Lebanon and Jordan, which have been buffeted by political upheaval and weak economic growth. But it is also worth noting how resilient the banking systems in all these countries have been. They all enjoyed growth in banking sector assets, deposits and loans in 2014 and 2015, according to data compiled by Lebanon’s Bank Audi. And, despite the weak macroeconomic environment, the level of non-performing loans has fallen in Egypt and Jordan and held steady in Lebanon over that time.

Whether such positive trends can be sustained for much longer is unclear. The local and regional political and economic environments continue to cause difficulties and, while there have been some positive developments in recent weeks, which should lead to long-term improvements, they have been accompanied by the likelihood of short-term pain.

That is certainly the case in Egypt, where on 3 November the government announced it was moving to a free float for the Egyptian pound. That led to a 45 per cent devaluation of the currency and will cause higher prices for consumers, which will dent economic activity and could prompt a rise in non-performing loans. London-based Capital Economics predicts inflation will climb from 14.1 per cent now to more than 20 per cent by mid-2017.

Despite this, US-based Moody’s Investors Service says the decision is credit-positive for local banks because it is likely to increase the availability of US dollars, supporting economic activity more broadly. The central bank also raised benchmark rates by 300 basis points on 3 November, which should also benefit banks. “The increase in the benchmark rates will support the banks’ profitability given their large exposure to short-term government securities, says Melina Skouridou, an analyst at Moody’s. Between them, these factors ought to offset many of the negative consequences of the devaluation on banks’ capital adequacy ratios and the pressures they will face from any rise in bad debts.

In Lebanon, there have also been some notable political developments, with parliament voting to elect Michel Aoun as president on 13 October, ending a power vacuum that had lasted since May 2014. This could herald progress in other areas too, including much-needed economic and fiscal reforms – such as developing the country’s hydrocarbons potential and reforming value-added tax (VAT) – which could help to boost growth, revitalise public finances and improve the operating environment for local banks.

The economy has also been harmed by regional trends, including the Syrian civil war, the arrival of more than 1 million refugees and a downturn in remittances from workers in Saudi Arabia and other slowing Gulf economies. The latter issue has particularly affected banks. Year-on-year growth in non-resident bank deposits was 3.8 per cent as of August 2016, down from 5.1 per cent in December 2015, according to Moody’s. In 2010, prior to the start of the Syrian war, the growth rate was 11.5 per cent.

Such deposits are critical for the banking system and the wider economy, providing a source of liquidity to the government and local private sector firms. Despite Aoun’s election, the environment is unlikely to improve quickly and analysts say banks’ high levels of exposure to government debt is a critical issue for them. As of March, sovereign debt and exposures to the central bank, Banque du Liban, accounted for 46 per cent of all bank assets.

The IMF forecasts the economy will grow by just 1 per cent this year and 2 per cent in 2017, well below the 8-10 per cent growth it enjoyed from 2007-10. Moody’s expects problem loans to rise to more than 5 per cent of all loans this year, up from 4 per cent in 2015. “We consider high and increasing exposure to Lebanese sovereign debt to be the main credit risk for Lebanese banks,” says Alexios Philippides, assistant vice-president at Moody’s, adding that “asset-quality pressure for banks in Lebanon will likely rise across all economic sectors”, especially construction, real estate and retail credit.

Jordan’s banks are in many ways in a similar position to their Lebanese counterparts. The economy is growing slowly, undermined by the Syrian civil war, and banks have high sovereign debt exposure.

The Jordanian banking system is smaller and more highly concentrated than those in Egypt or Lebanon. The combined assets of the top 10 banks in Jordan amount to $88.6bn, according to data compiled by Lebanon’s Bank Audi, compared with $189.2bn for Lebanon and $199.4bn for Egypt. Arab Bank accounts for 55 per cent of the Jordanian total, with second-placed Housing Bank for Trade & Finance taking a 13 per cent share.

Despite the tough local conditions, Jordan’s banks have, like their peers in Lebanon, proved fairly resilient. Fitch notes that “despite the challenging operating environment, Jordanian banks have continued to demonstrate healthy liquidity, adequate capital ratios and resilient profitability”.

The country’s banks have also been improving their asset quality position. Impaired loans accounted for 5.4 per cent of all loans at the end of 2015, down from 7 per cent in 2013. These days, credit growth is slowing, however. Total loans rose 9.5 per cent last year, mainly driven by lending to the government. Private sector loan growth was 4 per cent in 2015 and Fitch says it is “expected to be sluggish in 2016” due to a lack of lending opportunities and banks’ cautious risk appetite.

Such caution appears to be a sensible strategy for banks in many of these markets, given the political and economic environment they are having to contend with.