Banks in Saudi Arabia face subdued Q2 earnings

Listed banks in Saudi Arabia are looking at the prospect of their net profits flattening in Q2, compared to the previous quarter, as the Kingdom continues to grapple with slower economic expansion and credit growth.

While Saudi banks are still profitable, net profit growth has started to moderate on the back of weaker economic activity caused by tightened government spending after oil revenues started falling in mid-2014.

“Credit growth contracted 0.6 percent year-on-year in April (+0.2 percent month-on-month) at the sector level and we expect Q2 results to be subdued from the growth perspective,” Aarthi Chandrasekaran, banking analyst at Dubai-based Shuaa Capital, told Argaam.

On the liquidity front, the good news is that pressures have eased from the peak level reached in October last year to regain a higher comfort level. However, the bad news is that one of the reasons for easy liquidity could be the dip in credit growth as banks compete less for funds in the weakened economic scenario.

Another challenge for the sector is the high level of provisioning seen in recent years as companies awaiting government payments have delayed or defaulted on loans. Banks also saw impairments rise on their investment portfolios due to stock market declines. Tadawul-listed banks saw a 27 percent increase in total credit provisions to SAR 2.1 billion in Q1-2017, compared to SAR 1.7 billion in the year-ago period, according to data compiled by Argaam.

Analysts expect this trend to continue this year as they forecast non-performing loans (NPL) to continue rising over the next few months on weaker corporate cash flows and higher lending rates. In a recent report on Saudi banks, BofA Merrill Lynch Global Research highlighted the fact that periods of slowing loan growth correspond with a rise in NPL.

In addition, the implementation of International Financial Reporting Standards (IFRS), which comes into effect on 1 January 2018 in Saudi Arabia, is expected to lead to higher provisions across the banking sector, according to Adrian Quinton, Head of Financial Services for KPMG in Saudi Arabia.

One positive development for banks this quarter was the increase in reverse repo rates by the Saudi Arabian Monetary Authority last week following a rate hike by the US Federal Reserve. Saudi lenders traditionally have a large percentage of zero-interest deposits, which means their net interest margins (NIM) are set to expand.

However, due to the time lag before banks can restructure retail loans, only lenders with larger corporate exposure are expected to benefit quickly from the higher interest rates.

“The story of huge NIM expansion on the back of Fed rate hikes is likely to get pushed to next year,” said Chandrasekaran.

Meanwhile, Saudi lenders would also be looking forward to the possible inclusion of their stocks in global equity index provider MSCI’s emerging markets index review.

“We don’t expect a material change from this inclusion but it may have a slight increase in the volumes of stocks traded of the listed banks as the market widens for these equities to include global funds that include MSCI equities within their portfolios,” Quinton from KPMG said.

The MSCI is set to announce its annual market classification review list on June 20. Last year, it welcomed recent market reforms by Saudi Arabia and said it would continue to monitor positive developments of the opening of Tadawul to international investors.

While the actual decision on inclusion in the EM index would only come through next year, the financial sector is hoping for an inflow of funds beginning immediately if a favorable decision is announced this week.

Write to Brinda Darasha at brinda.d@argaamplus.com