Rising interest rates to boost profits of GCC Islamic banks: Moody's

Islamic banks in the Gulf Cooperation Council (GCC) countries will continue to report higher profit compared to their conventional peers, supported by rising interest rates, higher lending margins and favourable funding mix, Moody's said in a recent report.

Credit fundamentals of Islamic banks operating in the GCC have converged with those of their conventional peers, and they should maintain their improved asset quality and profitability in the coming year, it added.

"Islamic banks operating in the GCC countries have benefited from sustained growth in their franchises in recent years," said Nitish Bhojnagarwala, vice president – senior analyst, Moody's.

Their solvency has improved, supported by their efforts to reduce the stock of problem loans, and by their sound profitability, he added.

While both Islamic and conventional banks in GCC countries reported non-performing loan (NPL) ratios of around 5 percent at the end of 2011, Islamic banks reported a larger decline in subsequent years, to around 2.1 percent at the end of 2017, compared to 2.9 percent for conventional banks.

According to Moody's, the NPL ratios of Islamic banks are expected to remain low in the next few quarters, underpinned by three factors: continued resolution of legacy impairments primarily related to the real estate sector; lower new NPL formation as a result of their more selective and diversified credit growth, and a significant denominator effect from stronger loan growth.

While GCC Islamic banks have maintained higher capital adequacy than their conventional peers, the gap has been narrowing as a result of the Islamic banks' stronger asset growth and is expected to continue, the report said.

"Nevertheless, their capital buffers will continue to be supported by their stronger profitability and provide a comfortable cushion to absorb potential losses," Bhojnagarwala added.

However, Moody's warned that as long the Islamic banks continue to have "significantly higher real estate concentration and grow their assets at a faster pace", they will continue to "face higher asset risks than conventional banks", despite their stronger solvency metrics.