Banks to continue deleveraging

Bahraini banking sector is weakest while Saudi is strongest

Global ratings agency Standard and Poor’s (S&P) says rising debt maturities in the Gulf region over the next three years pose refinancing risks, with Dubai banks expected to deleverage further in 2012 while growth will remain flat.

“In the UAE, we expect to see continued deleveraging or a very limited growth scenario for the major Dubai banks in 2012,” S&P said in a report. “This is because these institutions are largely focusing on managing their existing exposures, owing to their pronounced asset quality issues,” it added.

The agency is bullish on prospects of Abu Dhabi lenders, however, whose refinancing risks it believes are “largely manageable” despite their balance sheets remaining bogged down by substantial amounts of restructured loans.

“Credit growth for the sector will be generated largely by the Abu Dhabi banks, in our view. The [UAE’s] banking system’s net external borrowings have fallen over the past few years and we believe the refinancing requirements of the local banks are largely manageable, particularly for Abu Dhabi institutions,” the S&P report said.

“However, the banks now carry substantial amounts of restructured loans on their balance sheets and the performance of these will be an important factor in their future asset quality as well as their exposures to certain [government-related enterprises] names,” it said.

S&P said that the large amount of regional debt maturing between 2012 and 2014 will add to the refinancing risk facing issuers in the Gulf Cooperation Council (GCC) countries. “Industry experts estimate bonds and sukuk of about $25 billion will mature in 2012, rising to about $35 billion in 2014,” it said.

“Among our recently revised Banking Industry Country Risk Assessments, we classify Bahrain’s banking system in Group 6, which is the highest risk among the GCC countries, ahead of the UAE (Group 5), Oman, Qatar, and Kuwait (Group 4) and Saudi Arabia (the strongest, in Group 2),” S&P noted.

Analysts at the ratings agency believe the region is entering a challenging loan and bond refinancing cycle, especially given the ongoing volatility in capital markets and fears that slowing global economic growth is already curbing corporate debt issuance and heightening refinancing risk in the region.

“For Gulf banks, we do not expect any meaningful changes in either the overall lending appetite or lending pricing as a result of the new capital requirements under Basel III. We believe that banks will generally not need to increase their capitalization because their current capital levels are already significantly higher than the new Basel III requirements and the composition of bank capital in the GCC is generally of high quality,” the agency said in a vote of confidence in the regional banking sector’s strength.

“We believe that credit growth will be very limited for Bahrain’s banks in 2012. We anticipate that they will continue to focus on their funding and liquidity and asset quality very cautiously, given the political uncertainties,” S&P said about Bahrain, whose banking sector has the weakest outlook amongst Gulf countries.

“Certain Kuwaiti banks are beginning to see early signs of stabilization of their asset quality. They have strengthened their capital levels over the past two years, and the local market funding conditions are more favorable. We expect to continue to witness a gradual improvement in Kuwaiti banks’ operating environment in 2012,” the report added.

“We anticipate that Gulf sovereigns will continue to benefit from high oil prices and increases in hydrocarbon production, which are bolstering government finances and external accounts,” it said. “We expect that economic activity in 2011 will record its highest growth rate since the onset of the global financial crisis, supported by accelerated government spending and large-scale infrastructure investment,” it added.

“Yet, in spite of generally solid headline figures, public finances in the region have deteriorated structurally. Partly in response to the Arab Spring, many governments in the region have increased spending on social transfers, wages, housing, and infrastructure. As a result, the dependence on hydrocarbon revenues to finance such spending has increased, which is reflected in higher non-oil budget deficits and increased break-even oil prices. With the global economy weakening in 2012, we think the main channel of impact for the GCC will be through weaker demand for hydrocarbons and hence lower oil prices.”

The report maintained that delayed corporate issuances due to unfavourable global financial situation will add to the refinancing risks facing regional players. “Among Gulf corporates, several companies have delayed issuances, which we believe could accentuate refinancing risks for these players,” S&P said.

“Of all the Gulf corporates that S&P rates, only one (International Petroleum Investment Company) has tapped the capital markets over the past six months. Most turned instead to banks to meet their funding needs,” it added.

“We have also seen less issuance in the rated GCC infrastructure and project finance sector. Although we believe that financing needs remain sizeable, particularly in the power and water sectors, issuers that could afford to wait have generally held back from tapping capital and bank markets, perhaps hoping for better pricing conditions at a later date.

We anticipate that Gulf governments will likely continue to prioritize projects in power, water, and hydrocarbons that they consider essential to the economies and growing populations of the regions, over other infrastructure sectors, such as transport and renewable energy.  Banks’ implementation of the Basel III regulations also poses a medium- to long-term challenge for the bank financing of this asset class in the region, in our view.”

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