UAE’s banking sector is the second largest in the GCC with asset growth outstripping GDP since 2000, according to latest official figures. Banks in the UAE were expected to face earnings pressure in 2006 following a record year in 2005, but many of the country’s 46 commercial banks continued to perform well, reporting good earnings despite a weaker stock market in 2006.
The UAE has 21 national banks with combined asset, loan and deposit market share of 77.4%, 80.0% and 75.4% respectively. And these banks continue to gain market share over their foreign-owned counterparts – 25 at the last count – due to better access to the UAE government’s hefty deposit pool. Among the national banks, five are Islamic while the rest are conventional; 19 of the national banks are listed on either the Dubai Financial Market (DFM) or the Abu Dhabi Securities Market (ADSM).
The UAE stands out as having higher commercial banking penetration rates than the rest of the GCC countries. The top domestic banks continue to dominate the local market, but foreign banks take the lead in retail and investment segment. Many of the banks enjoyed a nice stream of revenues from a short-lived Bull market that ended in the first quarter of 2006. According to a report by the UAE-based investment firm, Noor Capital, the sector saw year-on-year asset growth of 42% in 2006, while decelerating from 48% year-on-year in 2005, is still very impressive.” Although margins and non-interest income suffered in 2006 post-bubble asset quality remained robust, as stocks-related credit was confined to margin lending. Provisioning is also adequate.
Banking on religion
Another notable feature is the rapid stride that Islamic banking has made in the UAE. The growth in demand for Islamic compliant products and services has lead to a noticeable and rapid growth in the market share for Dubai Islamic Bank (DIB) and Abu Dhabi Islamic Bank (ADIB), Emirates Islamic Bank and Sharjah Islamic Bank. Figures show a rise in the number of banks that have established or are in the process of establishing Islamic finance subsidiaries. Earlier this year, Dubai Bank converted to an Islamic entity and other conventional banks have established separate Islamic banking operations. And in line with demand, another Islamic bank is expected to be launched in the second quarter of 2007.
Growth drivers
With an increasing number of mega-projects being announced and launched, lending activity is expected to remain robust while deposit growth is expected to reach new heights. Analysts forecast real economic growth in the UAE of 8% and 7% in 2007 and 2008, respectively. Global rating agencies also predict that banks in the UAE will maintain their healthy performance in 2007 although their asset quality may be challenged in the longer term by recent strong loan growth. “The banking sector’s profitability in 2007 is expected to be maintained broadly at levels seen in 2006 while asset quality and capitalization are likely to be sustained at their current levels,” said Yousef Khan, an analyst at Fitch.
According to a recent report by National Bank of Kuwait, the unprecedented access to liquidity generated from the high-oil-price environment has pushed UAE banks to seek acquisition of international financial assets. “The foreign assets of banks operating in the UAE grew 84% in a span of two years as those banks increasingly look abroad for investing and lending opportunities. At the same time, the foreign liabilities of those banks, especially the national ones, are rising rapidly, logging an 80% CAGR in the three years ending in 2006,” the report said.
Experts agree that the drivers of strong earnings, growth and under-penetration of key banking products will continue to push the profit margins of UAE banks upward. “Going forward, we believe that domestic banks will continue to benefit from strong (not astronomical) asset growth (+25%) and decent margins (+2%) with a shift in focus toward core service-driven banking fees,” a report by Noor Capital said.
Future growth
According to EFG-Hermes, the Cairo-based investment firm, there are some concerns that bankers must keep an eye on, including the weakening of the dollar and the rise in inflation rates, higher interest rates and falling bond prices. Noor Capital suggests that banks, must, “take a breather via inward examination of systems, portfolios, cost base and human resources. They also need to assess their short-term tactical standing and long-term positioning.”
The UAE is often regarded as over-banked, over-branched and ripe for a wave of consolidation that will strengthen the banking system. But analysts at EFG-Hermes believe otherwise. “There are a number of reasons why the pressure for change in this direction is likely to be significantly less than the headline numbers might suggest. The most compelling are that the incentives currently do not exist: in particular, pricing is wide and costs are low. While the gap between revenue and cost growth may narrow over the next few years, the sector is a long way from facing external pressure for consolidation,” its report said.
The region is developing and is expanding at a tremendous rate and there is room for financial institutions to provide services and facilitate investment both in size and the depth of the market. Analysts maintain that the future remains bright. “We expect that the growth of most exceptional and volatile income streams will slow to a stable level while the core banking business will grow strongly,” EFG-Hermes said. The UAE is the most competitive economy in the Arab world according to the Arab World Competitiveness Report 2007, but there is much to do.
The government must continue to take bold steps to remove impediments to economic growth and leverage the competitive advantages. It must continue to work hard to put in place systems and structures to ensure that the momentum gained in the last few years is maintained. Analysts said that innovation in the UAE in particular and the GCC in general, is fueling growth of trade and finance and further regional and global expansion might bring the banking sector to closer integration with the global economy.
UAE Leading Commercial Banks by Assets (Dec 31, 2006)
