The UAE banking sector will continue to generate double-digit growth rates during the next few years, according to local bankers and a recent report by Fitch Ratings.
The sector continues to benefit from a buoyant operating environment, principally driven by high oil prices, resulting in increased government infrastructure spending and general growth in both retail and corporate lending, the report said.
It added profitability was strong in 2007 – with most banks enjoying double-digit growth in operating income. The sector has shown strong resilience to the international credit turmoil and the US sub-prime crisis, with most banks' profitability and capital ratios not being affected.
Philip Smith, senior director in Fitch's financial institutions team, said UAE banks would perform strongly in 2008 due to progress in core banking activities and strong demand for credit.
Jamal Saleh, head of risk management at Commercial Bank of Dubai, said: "Recent reports by the International Monetary Fund predicted that the growth rate of the UAE's gross domestic product would surge by 24 per cent, which is the highest record of GDP growth rate so far. The banking sector will continue to witness double-digit growth, parallel with the economic growth in the country."
Sanjay Uppal, Chief Financial Officer of Emirates NBD, said the UAE banking sector would continue to show double-digit growth in the next few years. "The overall economic growth story in the region is showing high potential."
The Fitch report addressed the increase of loans by 40 per cent last year, but it said banks' asset quality remained sound in 2007. "However, impaired loans might increase as loan books mature and if rapid growth continues, particularly in personal lending and real estate lending. Additionally, concerns persist about a possible property market bubble, high inflation and regional political tension."
However, local bankers disagreed with Fitch regarding such fears, highlighting major advantages that support balance sheets of UAE banks. "Loans increased by 40 per cent in 2007, but this is one component of the balance sheet. Assets of UAE banks, deposits and other indicators had increased at the same level last year. Also the high economic growth rates need growth in lending for different economic services in the country," Saleh said.
He said lending for the real estate sector is still very low compared to international banking indicators. "For example, lending for the real estate sector represented 67 per cent in US banks' balance sheets, while in the UAE real estate lending is still below 20 per cent. Also the average return on assets in the UAE banks exceeds two per cent, while the international average rate is around one per cent. The UAE banks can absorb any potential losses in the real estate market because of the high profits."
Emirates NBD's Uppal also stressed UAE banks had achieved major developments in risk management areas. "The banking sector is the business of risks. The balance sheets of local banks are very strong and various risks are well-managed at the current stage."
Meanwhile, the Fitch report found "funding continued to be primarily sourced from customer deposits in 2007, although some bond issuance and syndicated loan agreements have taken place. Further issuance to diversify the funding base and reduce asset-liability maturity mismatch might happen in 2008, although this is subject to market conditions. Capital ratios have fallen for most large banks in 2007 but were still satisfactory. The implementation of Basel II in 2008 has typically resulted in a further slight decrease of capital ratios but these are expected to remain satisfactory at broadly the same levels."
Traditionally, local banks have been overcapitalised, said Uppal, and they have been generating more capital during the past five years due to the high growth rates. "The decline in capital ratios is a good indicator that banks are using their liquidity efficiently and optimising the return to their shareholders. The management is offering advanced tools regarding the return on capital and return on equity through new products, including issuing convertible bonds."
Saleh said capital adequacy ratios were expected to drop sharply with the implementation of Basel II. "The largest drop in capital ratios recorded in UAE banks was around three per cent. Basel I required assessment of credit risks only. Now Basel II requires assessment of credit, operational and market risks along with other risks in pillar two, and assessing all these risks in the balance sheet will reduce the capital ratio. However, capital ratios declined to around 14 per cent in the UAE banking sector, while Basel II puts the average at eight per cent, and the UAE Central Bank asks for 10 per cent.
"Capital ratios are still higher than requirements of Basel II and international standards."
The Fitch report focused on 12 banks in the country, which accounted for more than 80 per cent of the sector's assets at the end of 2007. It highlighted the merger between Emirates Bank International and National Bank of Dubai to form Emirates NBD as the largest bank in the UAE with approximately 21 per cent and 19 per cent of market share in banks' assets and deposits. Fitch said further consolidation might take place in the UAE banking sector.
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