As low oil prices take their toll, the UAE's bank deposit market will continue to weaken in 2016, leading to further tightening of liquidity accompanied by higher interest rates and a further slowdown in credit growth, Standard & Poor's said.
However, banks are prepared for deteriorating conditions into next year as oil prices remain lower for longer, leading to a decline in government spending, slower economic growth and falling asset quality, said the rating agency.
"We also expect asset quality to erode, which should translate into higher credit losses, therefore, earnings growth for UAE banks might be negative in 2016," it said in a report.
The five UAE banks rated by S&P "are ready to face the tough period ahead," thanks to high loan-loss reserves, capital ratios and strong funding profiles, even as earnings will probably fall this year and be "lackluster" next, credit analyst Timucin Engin wrote in a note on Monday.
S&P has a stable outlook on National Bank of Abu Dhabi, Abu Dhabi Commercial Bank, Sharjah Islamic Bank, National Bank of Fujairah and Mashreqbank.
The slump in crude will also cause a drop in investments by private companies and bank lending, S&P said. Stronger lending practices and balance sheets at the UAE banks compared to seven years ago means banks can cope with the deterioration in asset quality better than during the financial crisis in 2009, it said.
"Investors are comparing today's tougher conditions for banks in the UAE to those during the global financial crisis starting in 2009. However, S&P believes that this time is different," said Engin.
While oil prices dropped during the past financial crisis as they have recently, a steep decline in prices for real estate and the liquidity squeeze revealed excess leverage and weak funding structures for certain government-related entities (GREs) as well as a lack of proper underwriting practices at some UAE banks.
"After an initial shock to banks that led to a visible deterioration in performance in 2009 and 2010, liquidity began to flow back into the financial system in 2010 on the back of stronger oil prices. The credit cycle turned as early as 2012, and declining credit losses made way for a recovery in bank earnings," he said.
The difference this time is that the oil prices are now markedly lower. "Whereas at that time, oil prices began to rebound after a few months of weakness, this time we expect them to remain low for a longer period of time. Given the role of such a commodity in the economy of this major oil producer, domestic economic growth is slowing, accompanied by continued volatility on the UAE equity markets and a correction on the residential real estate market," the S&P analyst observed.
"In addition, we believe the uncertainty about how long oil prices will remain weak will force businesses and government to adopt a conservative stance, which will weaken spending for infrastructure and private-sector investments, and rein in bank lending," said Engin.
"We are likely to see a gradual but longer deterioration in operating conditions for banks over the next several quarters or years," said Engin.
He pointed out that that bank regulation in the UAE and underwriting practices at UAE banks are now stronger, and GREs are generally operating with stronger balance sheets than in the past.
By Issac John
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