How is banking in the Middle East changing given the financial and political events in the region over the past four years?
AEL, AUB Middle East banking is slowly recognizing and responding to the imperatives of the Arab Spring, which have broadly affected countries in one of two distinct ways. In rich oil-producing countries, big spending programmes were launched focused on salary increases and infrastructure/housing spending to pre-empt any contagion effects. The banking response was driven by the government reaction as banks saw an improvement in their retail lending operations as salary increases were leveraged by recipients into purchases of houses, cars and other consumer durables. The corporate bank focused on the contracting sector given the nature and direction of the Keynesian-type government response towards infrastructure and housing.
In larger-population, lower-per-capita-income economies, governments tried to implement, but lacked the economic resources for, a similar policy of economic appeasement. As a result, they faced greater political and economic dislocation, culminating in regime change in a number of countries. In these countries, the banks adopted a risk-averse defensive mode that continues to the present day as security and stability have not yet normalized.le
Paradoxically, bank operations and profitability have benefited in the short term from the Arab Spring through a combination of the positive impact of government spending policies and widening of credit spreads because of the prevailing turmoil in these markets.
A key opportunity and potential future challenge from the Arab Spring is the funding challenge of increased government spending compounded by the large sovereign debt obligations maturing in 2013-2015, which will require substantial bond and loan refinancings.
RP, Emirates NBD Access to international capital markets became limited and relatively expensive, forcing Middle Eastern and UAE banks to deleverage by focusing on deposit gathering while concurrently restricting new loan underwriting. This clearly intensified competition for deposits and drove up pricing for time deposits during 2009 and 2010.
During 2011, most Middle Eastern and UAE banks had deleveraged sufficiently and the sector loan-to-deposit ratio reached a more sustainable 100% while Eibor [Emirates interbank offered rate] rates started declining from elevated levels prevailing previously. This enabled deposit pricing to reduce and banks to gradually focus more on new underwriting and growth. In addition, towards the end of 2011 and in the first half of 2012, investor sentiment towards the region and risk appetite generally improved, allowing greater access to international capital markets at more reasonable prices.
Much progress has been made since the credit crisis of 2008 in restructuring government-related and private-sector entities. Dubai is well placed for continued growth as it leverages its status as the pre-eminent trading and financial hub for the region, and this growth is expected to be supportive to the deleveraging process.
HEAA, Commercial International Bank The Egyptian banking sector remains resilient despite the economic disturbance the country has been facing since the January 25 revolution. The fact that Egypt’s infrastructure remained unscathed by the revolution and business continued to operate is a testament to the strength of the country’s financial system. The financial sector continues to be robust, with healthy liquidity levels (loan-to-deposit ratios system wide remain at 50%) and high capital adequacy ratios, where minimum requirements set by the Central Bank of Egypt are 10%. The banking reform programme that had been adopted by the CBE and the cabinet appointed in 2004 induced the fastest rate of evolution the sector had witnessed in its history. Such a positive impact on the macro level made the Egyptian banking sector an attractive and highly appealing target for investment by international corporations that would add value to the institutions they invest in.
MA, Gulf Bank The changes in the Middle East region following the financial crisis have been generally in line with the rest of the world – although they may have started a bit more slowly at first. There is now much more focus on risk management and a proper governance structure. For example, there are fewer instances of owners’ interference in the day-to-day management of banks, while, at the same time, boards are getting more involved at the strategic and oversight level – their role is no longer a simple matter of rubber-stamping.
Also gone are the days when risk managers simply blindly followed the CEO’s or chairman’s directions. This was a normal evolution, as stronger, more experienced and more independent-minded people took on the risk role.
On the other hand, we did not see much change as a direct result of the political turmoil in the region, apart, of course, from banks generally taking a more conservative business stance (for example, in terms of credit extension and regional expansion) and showing a heightened sense of awareness on the issues of compliance and anti-money laundering.
DD, SABB Banking is changing in the Middle East as it is in almost all parts of the world. A healthy financial system and confidence in banks is an essential and critical component of any successful economy. Fortunately, thanks to the wise guidance and oversight of Sama [the central bank] over a long period of time, this vital ingredient is very much in place in Saudi Arabia.
Saudi banks are widely recognized as being among the strongest in the region, with high capital ratios and sound liquidity based on the core banking principle of taking deposits first and lending second. There is very low reliance on wholesale markets for funding and a general aversion to exotic new financial instruments that have caused so much damage to so many banks around the world. The changes in banking in Saudi Arabia are driven much more by customer needs, such as increased usage of direct channels and automation in the retail sector, and payments and cash management/liquidity solutions in the corporate sector.
HS, Bank of Palestine Banks are not separate from the economies and communities in which they operate. They need to work together with the different stakeholders to ensure that the needs of the communities are met. With the continuing occupation and the crippling effects on our economy, the challenge is even greater in Palestine, and the role that the banks can play is even more important in terms of doubling of efforts to reach underserved communities and improve access to finance and financial awareness.
Where do you see most growth for your bank over the coming months and years in terms of product, client segment, geography, etc?
HEAA, CIB We expect an increase in capital market activity in 2013, with more IPOs and M&A activity. Also, there continues to be an immense opportunity for growth in retail lending in Egypt. We are looking to capture a substantial portion of this fast-growing area as CIB has put the final operational infrastructure in place to sustain business growth.
On the consumer banking side, CIB engineered in 2011 several creative liability and mutual fund products for the market in areas including philanthropy. The bank has put in place all the building blocks of a world-class consumer franchise and in 2011 fully launched CIB Business Banking, aimed at small and medium-sized enterprises.
On the institutional side, we launched a number of initiatives to better address clients’ financial needs and maintain our competitive edge, such as our CIB Trade Online product. We think food and pharmaceuticals sectors will be active in addition to oil and gas.
DD, SABB Growth in Saudi Arabia is broad-based across almost all sectors of the economy, both private and public sectors, and therefore we see considerable growth opportunities in all aspects of our business. Most important, the Saudi economy is increasingly connected to the global economy.
Thanks to our partnership with HSBC, we are well placed to provide a comprehensive range of products and services to all our clients, both retail and corporate. SABB’s heritage is corporate and this is still the dominant part of our business, with key capabilities in trade finance, payments and cash management, treasury solutions and a full range of investment banking services via our partnership with HSBC Saudi Arabia. But our retail business is also growing fast, and we are, for example, the market leader in home loans and credit cards.
MA, Gulf Bank Gulf Bank is focused on Kuwait. Therefore our growth prospects are very much country-dependent. There has been some disappointment at the slow pace of the country’s development plan. We were hoping for much more activity related to the infrastructure, power and water sectors. We have invested a lot internally in the areas of contracting and corporate finance, but growth has been relatively muted there, as many projects are on hold or delayed.
On the other hand, due in large part to the salary increases in the government sector, the consumer business is doing better than expected. Consumer lending has grown quite nicely, and so has our retail-related business in general – for instance retailers, car dealers, and even small and medium-sized enterprises. Net-net, in the first half of the year, our loan book has grown by 4%, even though exposure to the real estate and financial sectors continues to reduce. In all likelihood, this trend is expected to continue for the next year or two, but we continue to be optimistic about the prospects for the infrastructure and power sectors in the longer term. Investments have been delayed, but they will eventually happen.
HS, Bank of Palestine In the past five years our market share in loans and deposits in Palestine grew by 38% and 44% respectively. We are aiming to increase our market share to reach 25% market share in both loans and deposits within the next three years. Our loans and deposits market shares are currently at 22% and 19.7% respectively.
Some 40% of Bank of Palestine branches were opened in just the past five years. We expect the growth in the next few years to be even more impressive as those new branches bear fruit and contribute more to our income.
AEL, AUB For the coming year, growth will centre on plain-vanilla commercial and retail banking operations. Banks with an external presence and suitable product offerings, such as AUB, will also be able to tap the fund outflows from the region into private banking.
Market-driven lines of business, such as asset management, margin lending and IPO underwritings are dependent on a positive change in sentiment cascading into a sustainable market rally. Although operating fundamentals support such a trend in the Gulf economies, lack of political stability and security in neighbouring countries and the general overhang of the international economy and the continuing Iranian nuclear dispute are delaying and dampening the prospects of such a rally.
In the future, regional countries that are quicker to achieve stability and to enunciate a clear doable economic vision will benefit from greater opportunities with related banking interest and focus on their markets.
At present, the jury is still out in terms of the sustainability of the Keynesian solutions of the oil producers or of the credibility of a broad-based democratic transformation in the non-oil rich economies.
RP, Emirates NBD Traditional sectors such as trade, tourism, transport, services, manufacturing and areas supporting these industries are growing and are expected to contribute to corporate lending growth. Although traditionally the focus for corporate lending in the UAE was on large corporates, there is now more opportunity in the mid-market sector and the upper end of the SME segment.
In terms of retail lending, credit demand is starting to pick up, and we are looking for good growth in retail products, particularly personal loans, auto loans, bancassurance, and private and priority banking.
How do you see bad debt levels evolving over the next year – at your bank and in the wider market?
AEL, AUB Credit problems and economic stresses are still very strong. Recovery signs are tenuous in the real economy. Therefore, non-performing loan challenges will continue for banks.
Regional banks, particularly in oil-producing countries, will broadly face lesser pressures than their international peers given their domestic focus and small exposures to impaired foreign assets. Arab Spring markets are the most vulnerable, given economic dislocation and limited government capacity or clear policy for intervention.
On balance, our expectation is that NPL levels will remain at or marginally above the average of the past three to four years, barring big political upheavals or improvements in the economic conditions of affected countries.
DD, SABB I hope I won’t live to regret this statement, but the short-term outlook for bad debt levels is benign. Provisioning in Saudi Arabia across the banking sector peaked in 2009 and 2010 following the global financial crisis and the specific family-group defaults in the country. Since then, provisioning has returned to more normalized levels through the life of the economic cycle and this trend is expected to continue in the short term. The overall economy is performing well and the banks have adopted sound risk management policies, so I am optimistic that bad debts will not be an issue in the near future. That said, in banking there is always a possibility of a one-off isolated problem.
MA, Gulf Bank In 2009, when I joined Gulf Bank, I had expected and hoped that the downturn would last two or three years. Therefore, our initial thought was that we would use that period to rebuild the trust of our customers and return Gulf Bank to profitability, which would allow us, come 2012, to focus on growth and market-share acquisition.
So far, I think we’ve done quite well. For instance, our NPLs had peaked at 24% in 2009, and they were about 50% covered/provisioned. Today, NPLs have fallen to 10%, which is still, of course, much too large a number, but our coverage ratio is now a comfortable 120%.
The problem, however, is that the downturn is not over: the value of our collateral, be it shares or real estate, continues to fall. Therefore, we are likely to continue to need to build our provisions. In 2009, we took provisions of $400 million, in 2010 we took $350 million, and in 2011 $250 million. That’s a total of $1 billion in three years, yet we still made money, which shows the resilience of our franchise.
The trend is indeed improving, but it’s not over yet. I suspect our 2012 provisions and NPLs will end up in the same range, or only slightly better, than 2011, although we had initially hoped that our provisioning requirements would have come down substantially as the economy eventually turned around. But it now seems that the next couple of years will be as challenging for the Kuwaiti economy and the banking system as the last three.
HS, Bank of Palestine In Palestine, NPLs have been decreasing over the past few years. The share of NPLs and watch list loans fell to 3% of total loans at the end of 2011, compared with 11% at the end of 2006. This stems from big improvements by the Palestine Monetary Authority in financial market infrastructure since 2009, including the establishment of an electronic credit registry, which allows a better assessment of borrowers’ creditworthiness.
At Bank of Palestine our NPLs have also been decreasing over the years and were 1.3% of total loans in the first half of 2012. We expect NPLs to remain at this level, if not even decrease in the next few years. The key to risk reduction is diversification and avoiding concentration risks to any client or segment.
RP, Emirates NBD It is now almost four years since the global credit crisis. We are past the worst of the impact on asset quality and much progress has been made in renegotiating and restructuring many of the government-related and private-sector entities to ensure corporate deleveraging occurs in an orderly manner with relatively limited shocks to the banking system. Although formation of non-performing loans is expected to continue in 2012 and possibly 2013, the rate of formation is expected to decrease as we move forward.
HEAA, CIB The stabilization of the political environment together with efforts made to restore security will attract new foreign direct investment that will have a positive impact on the economy. So we don’t see that the level of bad debts will evolve negatively during the coming year. The exception might be the tourism sector, where an improvement in occupancy rates is still hampered by low room rates, thus hindering the industry’s ability to generate adequate cashflows to meet its obligations in a timely manner.
How easy is it for you to operate as a bank in the Middle East given increasing international sanctions against two of your region’s largest economies (Iran and Syria) and against such groups as Hamas, Hizbollah, and Al Qaeda?
MA, Gulf Bank In today’s world, there is no choice but to build a bullet-proof compliance and anti-money-laundering process. A bank will not survive without one; you simply have to do it, whether it is easy or not to implement. Measures to combat terrorism finance, in particular, are an issue that concerns everyone, and there can be no compromises. We have seen a bank in the region disappear days after it was formally accused by the US Treasury of financing terrorism. The lesson should be crystal clear for everyone. I would also add that it is foolish to try to outsmart the system just to make a quick buck, such as dealing through intermediaries or settling in less-common currencies. The potential costs cannot be worth it. Bottom line is: good compliance is good business.
DD, SABB There is no question that the world has become a more complicated and interconnected place in terms of doing business. Therefore, effective compliance risk management is another critical pillar in ensuring the safety and soundness of any financial institution. ‘Knowing your customer’ and anti-money-laundering regulations and the effective implementation of legal and regulatory sanctions are important aspects of compliance risk management that SABB takes very seriously. That said, we are a Saudi bank and the vast majority of our business is with Saudi customers operating in the Saudi economy.
AEL, AUB Regional tensions are a continuing and tragic fact of life in the Middle East. Banks have adjusted to this situation over the years. Sanctions against countries or groups have long existed and are essentially recognized and respected by the majority of regional banks to avoid repercussions against their US and international operations.
These difficulties, however, have a silver lining. Actual or perceived problems have reduced the level of interest and commitment of resources by top global banks in the region, despite its massive wealth, expanding economies and populations with growing middle classes.
This reticence has provided the necessary time and market opportunity for local banks to develop strong domestic franchises and, in certain cases such as AUB, to create a viable regional footprint that exploits local business opportunities as well as the increasing cross-border investment and retail flows in the absence of strong competition from larger international players.
