The Federal Reserve has slashed interest rates to four years lows as the US confronts a severe financial crisis and a certain recession. The Fed also reduced the discount rate for direct loans to banks by 50bps to 1.25%.

Central Bank of Bahrain has cut the lending and repo rates by 125bps and 25bps to 3.5% and 1.5% from 4.75% and 1.75% previously. The step taken by the Central Bank of BahrainCentral Bank of Bahrain is to increase the liquidity and ease the tightening credit scenario.

Central Bank of Kuwait has also cut its discount rate and repo rate by 25bps and 50bps to 4.25% and 2% from 4.5% and 2.5% previously. The rate cut by the CBKCBK will help the banks to mobilize the funds at a lower cost. We believe that the cut in discount rate will help bank re-pricing its liabilities faster than the loans.

Skeptical Central Bankers of UAE and Saudi Arabia

Although the Saudi Arabian Monetary AgencySaudi Arabian Monetary Agency and Central Bank of UAECentral Bank of UAE have not reacted immediately to US fed rate cut reaction on Wednesday, but they have been cutting the rates to be in parity with the US dollar to depeg their respective currencies.

US Central Bank

The US Central Bank has cut benchmark overnight rates from 5.25% to 1% in twelve steps to counter a financial crisis.

As can be depicted from the chart above, the central banks have reacted vis-à-vis the rate cuts by US Fed. We believe that this action taken by the Central bankers in GCC is positive as it helps the banks to bring the funds at a lower cost and re-price their liabilities faster as compared to loans.

We expect the banks having higher Credit/Deposit ratios will benefit as they will be able to re-price their liabilities and improve their credit spreads. Also the most of the banks have reported a growth in net interest income in the third quarter, we expect that the effect of the slowdown in business coupled with rate cuts will help the banks to re-price their liabilities faster and sustain their net interest margins.

Impact of the rate cuts:

• Reduction in key lending rates by central bankers will bring in low cost liquidity to the banks and can see cash levels rising in quarterly results ahead.
• Investment portfolio as a % to deposits will go up and can be invested in bonds, equities and other asset classes.
• Loans will be accessible at a lower interest rates and can spurt the credit growth of the banks going ahead.
• Likely to change the negative sentiment towards the economy and risk appetite of an individual.
• Positive for the stock market investors.

We believe that the rate cuts by the Central bankers will boost the sentiment of the panicked investors in the markets and will change the negative sentiment of an investor over a period of time. We continue to remain positive on the banks in GCC as they do not have a direct exposure to the US Subprime where most of the US banks and funds have lost money.

In case of the bank's AFS investment portfolio, some of the banks have seen a dip in the gains of some banks have even booked losses owing to fall in portfolio value, owing to this banks have transferred most of their investments from AFS to HTM and taken a Mark-to-market hit on their investment portfolio. Most of the banks are heavily invested in short-term treasury bills having duration of less than two years and highly liquid instruments.

Banks have been aggressive in provisioning traditionally in GCC so much of the write-offs will be cushioned via excessive provisions. We expect the asset quality to remain stable in GCC.

-Ends-

© Press Release 2008

 

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