Despite continued improvements in liquidity conditions in Saudi Arabia's commercial banking sector, credit demand will remain subdued throughout the rest of 2017, owing to a weak macroeconomic backdrop, BMI Research has said.
This will put pressure on banks' profitability, but sector stability is not at risk and demand will pick up going into 2018, it said.
Saudi Arabia's commercial banks will continue to navigate a challenging operating environment over the next two years, owing to the weak macroeconomic backdrop, the Fitch Group company said.
“The Saudi economy has been severely affected by the slump in oil prices since H2, 2014, and as we forecast prices to stay low over the coming years, we project economic growth to stay sluggish over the coming years, at 0% in 2017 and 1.6% in 2018.
“Weak confidence will in turn weigh on credit demand, limiting banks' ability to grow their balance sheets. As such, we forecast assets at commercial banks to expand by a compound annual growth rate (CAGR) of 3.6% over 2017-2021, well below the CAGR of 7.9% over 2012-2016,” BMI said.
BMI believes that liquidity conditions in Saudi’s banking sector will continue to improve throughout the rest of 2017 and in 2018, after experiencing significant headwinds in 2016.
Commercial banks faced a severe liquidity crunch in 2016, owing to a combination of delayed payments from the government to contractors weighing on private sector deposits, and government revenues under strain amid bottoming oil prices in the first half of the year.
The situation has significantly improved since Saudi Arabia's debut in the eurobond markets in October 2016, when it issued $17.5bn worth of debt. Repayments to contractors in the last months of 2016 also had a positive impact on liquidity.
Over the coming months, BMI believes that continued government international borrowing and higher oil prices will support liquidity in the banking sector, although it does not expect a return to pre-slump growth levels. In June 2017, public sector deposits expanded by 9.5% y-o-y, most likely driven by the positive impact of the $9bn international sukuk issuance in April on liquidity.
Meanwhile, private sector deposits continued to show positive, albeit weak, growth. Also pointing to improving liquidity conditions, the 3-month Saudi Arabia inter-bank offered rate has fallen by around 60 basis points since October 2016, and has stabilised in recent months.
”While easing liquidity conditions, and the associated fall in the loan-to-deposit ratio in recent months, will enable commercial banks to grow their asset base, we expect credit demand to remain subdued,” BMI said.
In order to avoid the liquidity squeeze seen in 2016, the governments will no longer favour domestic borrowing in order to fund its fiscal deficits. Combined with recovering oil prices reducing the government's borrowing needs, we expect claims on the public sector to post more modest growth in the months ahead, in line with the trend currently observed.
Meanwhile, weak confidence in the economy will continue to exert downward pressure on demand for credit within the private sector. BMI believes that Saudi commercial banks will be largely resilient to the challenging operating environment, benefiting from sound fundamentals.
The deterioration of macroeconomic conditions has resulted in rising non-performing loans, from 1.2% of total gross loans in 2015 to 1.4% in 2016, as well as lower profitability, BMI said.