Saudi Arabian banks may face the biggest challenges among its peers in the region in the wake of the oil crash as an economic slowdown hits the world’s biggest oil exporter the hardest.
Some of the shares of the biggest names in the kingdom’s banking industry such as National Commercial Bank, Al Rajhi Bank and Samba are trading at multi-year lows and below the value of assets.
Global investors have been off emerging markets in general, especially those countries such as Saudi Arabia that rely heavily on the sale of commodities to keep the engine of growth ticking along.
“In our view, the sharp drop in oil prices and the resulting impact on Saudi Arabia’s fiscal balance will weaken operating conditions for the banking sector,” says Suha Urgan, a Dubai-based analyst at the rating agency Standard & Poor’s.
“We expect banks’ profitability will decline in 2016, owing to lower credit growth combined with a rise in funding costs and credit losses.”
Even the opening up of the Saudi stock market to foreign investors last year has failed to spark interest in its shares after many heated years of anticipation. Touted as the biggest developing market that was closed off to foreign investors, its opening came amid a slide in emerging markets.
The Saudi Arabian stock market opened to much fanfare last year but foreign investors have been shying away as the price of oil continues to plummet. The benchmark Saudi Arabian Tadawul dropped 13 per cent in January alone after falling 17 per cent last year.
Saudi Arabia is the world’s biggest exporter of crude oil and uses revenue from the sale of oil to fund 90 per cent of its budget.
Unlike the UAE, Saudi Arabia has a more concentrated number of banks – 12 local banks and 12 foreign ones. The most recent results for the sector show that banks are starting to come under strain and that the fortunes of the industry will be tied to the fate of oil prices.
Saudi Arabia is one of the least diversified economies in the region and economists have for decades urged such countries to make more of an effort to branch out into other industries apart from hydrocarbons while at the same time reducing subsidies.
“Saudi Arabian authorities are planning fundamental reforms, including ‘free energy markets’, for the next five years,” says Simon Kitchen, a Cairo-based strategist at EFG-Hermes, an Egyptian investment bank.
“The full scope of these reforms should become apparent in [the first half of this year], when we hope to see more information on energy pricing for consumers and industrials.
Mr Kitchen notes, however, that such reforms would create winners and losers, with those companies that have relied heavily on subsidies being worse off. While that may mean new avenues of business for banks, it may also mean that there is an increase of bad debt for those companies that struggle as a result of the new reforms.
It may be too early to tell what the full impact might be, but the uncertainty is keeping many investors on the sidelines.
Still, there are some potential bright spots amid the morass. Saudi Arabian banks might get a boost if the government makes it easier for consumers to get mortgages.
Local news reports in Saudi Arabia are suggesting that the Saudi Arabian monetary agency, the country’s central bank, is considering raising the loan-to-value ratio on mortgages to 85 per cent from 70 per cent. The agency had previously slashed the ratio to 70 per cent in November 2014 to prevent overheating in the property market.
Pressure from lower oil prices, which has led to a drop in disposable incomes after Saudi Arabia reduced energy subsidies, may prevent a repeat of the high growth in mortgages from 2011 to 2014, EFG-Hermes says. During those boom years, mortgage books at banks grew at an annualised rate of 37 per cent and accounted for 6.5 per cent of total loans as of June last year, the investment bank adds.
The price of oil has tumbled more than 75 per cent since mid-2014.
As a result of that drop, the Saudi Arabian budget unveiled in late December set deep cuts in capital spending for next year and reduced utility subsidies in an effort to deal with the shrinking oil revenue.
The Saudi government said it planned to cut spending this year by 20 billion Saudi riyals (Dh19.58bn) to 840bn riyals, which would bring the deficit down to 326bn riyals from 367bn riyals last year.
With a slowing economy, that would still mean the deficit would rise to 16 per cent of GDP from 15 per cent last year, although it would remain well below the IMF’s forecast of a 21 per cent budget shortfall.
But the ratings agency Moody’s says that government spending should continue to mitigate the fallout from the drop in oil. EFG-Hermes is also not negative on Saudi Arabian banks overall.
The IMF has lowered its economic growth forecast for the kingdom this year to 1.2 per cent, down from its October forecast of 2.2 per cent and the slowest pace of growth since 2002. Growth last year was 3.4 per cent.
The net current account surplus of the region stands at more than US$2 trillion, according to economist estimates.
Jean Michel Saliba, an economist at Bank of America Merill Lynch, notes that the most recent budget will put an end to overspending but that it would at the same time lead to lower GDP growth.
“It likely signals no near-term changes to energy or FX policy as the adjustment takes place on the fiscal side,” he says.
“Lower public spending should also lead to slower real non-oil GDP growth.”
Some traders are not as sanguine. They speculate that Saudi Arabia may be forced to choose between cutting oil supply to bolster the price of crude or unpeg the over-valued Saudi riyal from the ever strengthening US dollar that is depleting its forex reserves.
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