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Rated Gulf banks could absorb up to a $36 billion shock

Banks’ strong earning capacity will help navigate the COVID-19, oil price shock

Saudi banks most resilient; Kuwaiti banks have the strongest capacity to withstand an increase in cost of risk Banks in Bahrain, Oman, and the United Arab Emirates are the most vulnerable Banks' profitability will deteriorate in 2020

By: S&P Global Ratings

Rated GCC banks could absorb up to a $36 billion shock in additional credit losses before starting to deplete their capital base. This corresponds to 2.7x the average normalized losses for the sector in the region reflecting substantial levels of stress according to S&P Global Ratings in its new report,“How Resistant Are Gulf Banks to the COVID-19 Pandemic and Oil Price Shock?”.

Regional banks are highly profitable – due to large proportions of noninterest-bearing deposits, sustainable sources of fee income and high operational efficiency – with generous provision cushions built over recent years that will help them navigate the current economic rough waters. Most rated Gulf banks have relatively strong profitability and a conservative approach to calculating and setting aside loan-loss provisions. With rated regional banks adopting a relatively cautious attitude toward the quality of their investment portfolios, S&P Global Ratings’ view is that many stand to benefit from capital gains due to the shift in market conditions.

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On average, GCC banks can absorb 2.7x normalized losses (the expected average or ‘normal’ level of annual credit losses, calculated by S&P based on an economic cycle of 12 years including three years of recession), but this masks a significant level of difference between banks. Looking at the coverage level using profitability only, the most resilient are the Saudi banks and the least resilient are Bahraini banks due to the economic shocks and the limited capacity of the government to support the banks. Factoring the additional excess or shortfall provisions, Kuwaiti banks have the highest capacity to resist any increase in cost of risk and Bahrain, Oman, and the UAE are the most exposed in the current crisis because of their high exposure to the real estate sector.  

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S&P Global Ratings anticipates that the banks’ profitability will deteriorate in 2020, because of the dual shock of COVID-19 and the decline in oil prices. The ratings firm expects that financing growth will remain limited, with banks focusing more on preserving their asset-quality indicators than generating new business. Additionally, the interest margin will decline, given the reduction in interest rates and the structure of rated GCC banks’ funding profiles coupled with an expectation of depreciated asset quality and increase in cost of risk.

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Looking ahead, the banks will continue to benefit from their relatively low-cost base and potential additional cost-saving initiatives from 2021. Investment revenue is also likely to support the bottom line of some banks this year as the drop in interest rates increases the market value of these instruments and banks decide to offload them, thereby realizing gains. Credit losses could take up to three years to flow through financial statements given regulatory forbearance measures.