The sharp decline in oil prices, accelerated real-estate price corrections, and drop in vital non-oil economic sectors will pressure the GCC banks’ earnings in 2020. But the stimulus and support measures from the governments will help banks navigate the challenging environment, S&P Global Ratings said yesterday.
Islamic banks are likely to see a greater effect on asset-quality indicators since they typically have a higher proportion of exposure to real estate and cannot charge late payment fees, the rating agency said.
“The sharp drop in oil prices and measures implemented by regional governments to contain transmission of the coronavirus (COVID-19) will take a toll on important sectors such as real estate, hospitality, and consumer-related. Under our base-case scenario, we assume that these measures will be relatively short lived and forecast a gradual recovery in nonoil activity from third-quarter 2020,” said S&P Global Ratings credit analyst Mohamed Damak.
The rating agency believes conventional and Islamic banks in the GCC countries will see significantly reduced revenue and credit growth in 2020. The sharp drop in oil prices and measures implemented by regional governments to contain transmission of the COVID-19 pandemic will take a toll on important sectors such as real estate, hospitality, and consumer-related.
“Under our base-case scenario, we assume that these measures will be relatively short lived and forecast a gradual recovery in nonoil activity from third-quarter 2020. However, the severe shock could cause irreparable damage to some parts of the nonoil economy. Furthermore, if the recovery takes longer than we expect, GCC banks could feel greater pressure”, the S&P analysts said.
The rating agency also expects banks to focus more on asset-quality indicator preservation than generating new business. In its forecasts, it assumes that measures implemented by the GCC governments to contain COVID-19 are relatively short lived. If this assumption does not materialize, the effect on their economies and banking systems would be stronger than the current forecast. This risk is exacerbated by delays or cancellations of important events scheduled in the region.
“In our view, Islamic banks are somewhat more vulnerable than their conventional peers. This is because they tend to have higher exposure to the real estate sector due to the asset backing principle inherent to Islamic finance. Furthermore, they cannot charge late payment fees (unless these are donated to charities at the end of the exercise) meaning that clients tend to prioritize payments on conventional exposures versus Islamic.“ “However, GCC governments’ requests for all banks not to charge late payment fees when they reschedule financings to affected companies partially mitigates this distinction.
These vulnerabilities are also somewhat mitigated by the comparable business models of both bank types, consisting primarily of collecting deposits and extending financings to the real economy in their countries. Some market observers might argue that Islamic banks should be more resilient because of the asset backing principle, which results in stronger collateral coverage.“ S&P beleives that collateral realization is still difficult in the GCC, although some authorities have implemented more creditor-friendly regulation over the past three years. In addition, real estate is one of the most preferred collateral instruments and its value has been declining for all the GCC markets over the past three years.
