Financial performance of Saudi banks will remain under pressure: S&P

Lower interest rates, higher cost of risk and spike in geopolitical risk weigh

A Saudi money changer counts U.S banknotes at a currency exchange shop in Riyadh, Saudi Arabia September 29, 2016. Image used for illustrative purpose.

A Saudi money changer counts U.S banknotes at a currency exchange shop in Riyadh, Saudi Arabia September 29, 2016. Image used for illustrative purpose.

REUTERS/Faisal Al Nasser

The financial performance of rated Saudi banks will remain under pressure in 2021, on the back of lower interest rates and higher cost of risk, S&P Global Ratings said in a new report.

As regulatory forbearance measures are gradually phased out and the economy adjusts to the new normal, the cost of risk will remain elevated in 2021, increasing to 140 bps (from 80 bps in 2019), before starting to gradually normalize in 2022, the ratings agency said in the report “Banks In Emerging Markets: 15 Countries, Three Main Risks”

“Compared with other emerging markets, in our view Saudi banks have showed some resilience thanks to support from the Central Bank and minimal reliance on external funding. We see the banks as vulnerable to a spike in geopolitical risk.”

S&P analysts expect that banking systems in emerging markets (Argentina, Brazil, Chile, China, Colombia, India, Indonesia, Malaysia, Mexico, the Philippines, Russia, Saudi Arabia, South Africa, Thailand, and Turkey) will  face three common risks in 2021: The expected deterioration in asset quality indicators as regulatory forbearance measures are lifted; a volatile geopolitical environment or domestic policy uncertainty; and vulnerability to abrupt movements in capital flows for a few.

However, given the exceptionally low interest rates in several developed markets, analysts expect Saudi banks with sound credit fundamentals to retain good access to international capital markets.

On the geopolitical side, with the new US administration, the potential reinstatement of the Iran nuclear deal could upset Saudi Arabia, some other Gulf Cooperation Council (GCC) countries, and Israel, S&P said in the report.

It is unclear how these governments will tackle the related challenges. In the GCC, 2021 started positively with the resolution of the boycott of Qatar by four Arab countries, the ratings agency noted.

“In our view, this will improve political and economic cooperation across the GCC. That said, we believe the damage done by the three-year boycott of Qatar to the GCC's political cohesiveness, both real and perceived, is likely to remain. If geopolitical risks heightened, investors could shift their attention to more stable regions. This would prompt an increase in funding costs, a lower appetite for regional instruments, or major foreign funding outflows,” S&P said in the report.

The transmission channels to other EMs include commodity prices (mainly oil), which are likely to increase in case of conflict and depending on its severity, or through a shift in investor sentiment, it added.

“Overall, we expect banks will maintain high levels of core deposits in their funding base and their strong liquidity metrics will remain intact. We also believe that the regulation will remain at least comparable with peer countries globally,” S&P said.

(Writing by Brinda Darasha; editing by Daniel Luiz)

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