Saudi banks to remain profitable despite margin pressure

Kingdom's 'Big Three' are expected to continue outperforming their regional peers

FILE PHOTO: A man walks past a sign of Al Rajhi Capital company in Riyadh, Saudi Arabia, November 8, 2017. REUTERS/Faisal Al Nasser/File Photo
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Profitability at Saudi Arabia's big three banks is likely to remain strong despite the recent turn in the interest rate cycle, according to a new report from ratings agency Moody's Investors Service.

The three banks — National Commercial Bank (NCB), Al Rajhi Bank, and Saudi British Bank (SABB), had a combined share of about 47 per cent of the kingdom's banking assets, but are likely to maintain profitability due to their efficient cost structures, the ratings agency said.

"SABB will be hardest hit because it must also absorb the costs of its merger with smaller peer Alawwal Bank, and NCB will face a similar pressure if its planned merger with Riyad Bank is completed," said Ashraf Madani, a vice president and senior analyst at Moody's. "Al Rajhi's retail focus will provide initial protection, but prolonged low rates will take their toll. Nevertheless, sound efficiency and strong capital at all three banks will protect their credit profiles."

NCB is the kingdom's biggest lender by assets. It had total assets of 498 billion Saudi riyals (Dh487.7bn) at September 30, compared to Al Rajhi Group's 368.3 billion riyals, and SABB's 257.8bn riyals, according to company filings. However, Al Rajhi Bank currently has the largest share of the retail market, with a 30.6 per cent share, and had the highest market capitalisation of 158.3bn riyals at the end of September.

The sector is also undergoing consolidation, with SABB's 18.6bn riyal merger with Alawwal completed in June and the proposed merger between NCB and Riyad Bank, which would extend its lead as the kingdom's biggest bank with combined assets of about 750 billion riyals. This deal, which was announced in December last year, is still under negotiation.

Given the riyal's peg to the US dollar, the Moody's report states that profitability is set to fall slightly due to the three recent interest rate cuts by the US Federal Reserve, which are followed by the the Saudi Arabian Monetary Authority, the kingdom's central bank.

"Net interest income makes up roughly three quarters of large Saudi banks revenues. Lower interest paid on loans will weigh on revenues and lead to lower profitability. But the impact will vary from one bank to another, depending on their funding profile and their lending focus on retail or corporate clients," the report said.

SABB is expected to be most affected by falling rates due to its higher proportion of corporate banking customers, who would most likely look to reprice their loans as rates fall.

"We expect Al Rajhi, in contrast, to broadly preserve its margins, given that almost 69 per cent of its operating revenue is generated through its retail business. Retail loans are largely fixed-rate and are less sensitive to rate volatility than corporate loans," Moody's said.

Overall though, Saudi banks "outclass their regional peers in terms of profitability and we expect them to continue to outperform despite this pressure", it added. Pressure on net income will be offset by growth in the banks' loan books of about 4-5 per cent this year and next, Moody's said. The amount of non-interest income earned through fees and commissions is also likely to remain fairly stable, it argued.

Saudi banking stocks have outperformed the kingdom's overall performance over the past 12 months. According to market data, the Tadawul All-Share index is up 3.84 per cent, but an index of its banking stocks is up 12.5 per cent.