Saudi banks well placed to benefit from robust domestic economy

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This outlook expresses the rating agency's view on the likely future direction of fundamental credit conditions in the industry over the next 12 to 18 months. It does not represent a projection of rating upgrades versus downgrades.

In addition to the Banking System Outlook, which focuses on performance measures and forward-looking rating drivers for the Saudi banking system, Moody's has also published a 'Banking System Profile' report for Saudi Arabia. The Profile forms part of a new series of reports on banking systems throughout the world, which are designed to complement Moody's Banking System Outlook reports by serving as descriptive reference guides to key structural factors that are reflected in Moody's bank credit ratings.

'Moody's positive outlook for the direction of credit conditions in the Saudi banking system is primarily underpinned not only by the country's robust economic performance, benefiting from oil revenue windfalls, and strengthened government finances, but also by the government's commitment to diversification, which has partly been demonstrated by announced infrastructure projects worth in excess of $350bn over the next few years,'

says Constantinos Kypreos, a Moody's Vice-President/Senior Analyst and author of the reports.

The analyst adds that challenges remain -- with inflation now exceeding 10%, geopolitical risks and an economy that is still dependent on oil revenues and hence displays considerable volatility -- but that the overall impact on the banking sector will, in Moody's view, be positive, at least over the short-to-medium term. The accommodative operating environment has also allowed Saudi banks to maintain strong financial fundamentals. Although the banking sector's financial indicators may have peaked in 2006 and 2007, Moody's anticipates that they will remain strong.

The ten Saudi banks rated by Moody's also have established and defensible local franchises, partly reflecting their dominance and their success in penetrating under-developed market segments, including retail banking and Islamic banking services, while they are all well-placed to potentially capitalise on the upcoming Mortgage Law. They have also improved their risk management culture in recent years and display a moderate risk appetite, one reason for their relatively low exposure to sub-prime/structured products.

'However, certain structural factors weigh on the upside potential of the Saudi banks' ratings. These include concentrations in lending and deposits, mismatches in the maturity profile of assets and liabilities, limited geographical diversification and pool of experienced human capital, the economy's still limited diversification beyond the hydrocarbon sector and volatility in the country's real and nominal output, and strong loan growth in recent years that has not yet matured or been tested under more adverse conditions,' Mr Kypreos notes.

The Saudi Arabian banking system has proved to be robust, well-regulated and relatively stable thanks to a strong operating environment resulting from the country's status as the global leader in oil production, solid government finances, and continuous efforts to diversify the economy. In addition, the Saudi Arabian Monetary Agency is, in Moody's view, a prudent regulator and one of the best in emerging markets. Its risk-based supervision approach, tight regulatory standards, close monitoring of banks' performance and ongoing interaction with their boards and senior management have so far ensured that the financial sector remains sound.

Finally, the banking system enjoys a high-support environment: the Saudi authorities have historically demonstrated their willingness and ability to intervene and prevent a banking default by any of the Saudi banks, irrespective of their size or importance to the system.