Low interest rates boost Mid East bank profits

It has to be admitted that the region's banks have not avoided the impact of the US sub-prime crisis entirely.

The biggest of them all, the Arab Banking Corporation saw profits dive by 38 per cent in 2007 due to write downs. The Abu Dhabi Commercial Bank also reports an annual fall in profits of three per cent. And there is no certainty that more provisions will not follow.

The credit crunch is also affecting the ability of financial institutions to issue bonds to raise capital. Most Middle East banks are highly capitalised. But this is bad news for regional home loan companies which need to sell mortgage-backed securities and must be hoping that this market will recover soon, or their ability to make new loans will be restricted.

Lower cost funds

However, the slashing of US interest rates is generally very good news for the profits of Middle East banks which can now play the old banking game of being slow to pass on the benefits of cheaper money to clients and pocketing the difference.

Indeed, 2007 was another record year for many banks in the region. In the UAE banks posted a combined profit of $6.8bn, up a thumping 29 per cent on 2006.

'These figures exhibit a strong banking sector, which is expected to continue to grow at reasonable rates into the future,' commented UAE central bank governor Sultan bin Nasser Al Suwaidi.

It is also going to be interesting to see whether the consolidation of the banking sector that started last year with the amalgamation of the National Bank of Dubai and Emirates International is followed by further mergers in the sector.

Traditionally bank mergers tend to be shotgun weddings during difficult periods but the NBD-EBI deal showed that this does not have to be the case. Government pressure can be enough. And the logic towards consolidating local banks into bigger units to face off mounting competition from the global giants is strong.

IPO prospects

Across the Middle East there is also a large pipeline of initial public offerings ready to hit local equity markets, and banks do very nicely out of IPO fees and financing their customers' investments in them.

But whether this bonus accrues to the banks' bottom line depends on how local markets behave in a year when global equity markets are likely to continue to show volatility and Middle East stock markets do now appear more strongly correlated than in the past.

Whatever happens the lower cost of funds due to the dollar-peg will support Middle East banking profits this year, and as new expatriates arrive in the region they are all going to need bank accounts, credit cards and auto loans.

See also:
Drawing investment lessons from turbulent capital markets
The UAE invests in banks that invest in the UAE
Have Sovereign Wealth Funds bought into banks too early?