Moody’s Upgrades Outlook on Nigerian Banks to Positive
Nigerian banks’ earnings prospect is positive despite macroeconomic headwinds confronting Africa’s largest economy. Banks have seen a series of margin dilutive directives as the industry regulator seeks to plug more holes in the sector, and economy.
In its premium report obtained by MarketForces Africa, Moody’s said its positive outlook for the Nigerian banks was driven by strong profitability prospects despite weak macro conditions.
“We have changed our outlook on the Nigerian banking sector to positive from stable. Our view is that Nigerian banks’ profitability will strengthen, despite economic headwinds”.
According to the global rating firm, over the coming quarters, higher interest rates will increase the banks’ net interest margins, fees and commissions will strengthen and cost reduction plans will bear fruit.
This will offset higher provisions related to the loan quality, which will slightly weaken as foreign-currency shortages and naira devaluation take a toll on foreign-currency borrowers, and as inflation and rising interest rates strain household budgets, it added.
Moody’s said operators’ funding and liquidity will be stable; noting that Nigerian banks have good access to market funding and can rely on steady inflows of low-cost deposits.
It said profit retention and regulator-driven capital-raising exercises expected this year will bolster capital. The likelihood of government support for failing banks will remain high for our rated banks.
Nigeria’s GDP growth rate is projected at 3.2% and 3.0% for 2023 and 2024, respectively. The note stated that growth prospects are weaker than before the 2016 oil price shock, largely due to low levels of oil production and foreign currency shortages.
Analysts at Moody’s highlighted that economic expansion will be insufficient to significantly lift living standards, given the country’s population growth. Government reforms, including the unification of foreign exchange rates and the near-complete removal of oil subsidies, have so far mainly stoked inflation, the rating note stated.
Moody’s thinks that the Nigerian government’s ability to curb rising prices will be an important test of its policy effectiveness in the months ahead. Asset quality will come under pressure.
It said high inflation, rising interest rates and naira depreciation are straining borrowers’ repayment capacity, particularly those with foreign-currency loans which printed at 42% of total loans in June 2023. “Problem loans at our rated banks were roughly 3.7% of the aggregate loan book in June 2023, with loan-loss provisioning coverage at a solid 126% of problem loans.
“Some banks have implemented risk management strategies to manage their foreign-currency loans, including establishing debt service reserve accounts, cash collateral and hedging instruments”, Moody’s report stated.
Nigerian banks have large sovereign debt holdings, representing 20% of aggregate total assets as of September 2023 – a clear vulnerability which links the banks’ creditworthiness to the sovereign’s credit profile currently at Caa1.
However, the positive outlook on the sovereign rating bodes well for the banks. Capital is solid and may increase slightly, it explained. Moody’s report stated that most of the banks it rates in Nigeria have strong capital ratios, with tangible common equity1 at 12.6% of risk-weighted assets (RWA) in June 2023.
However, a handful of these rated banks experienced a significant drop in their capital adequacy ratios (CAR) in June last year when the naira was initially devalued, which placed them at risk of regulatory breaches.
“We understand, that their reported CAR did not incorporate year-to-date profits at the time, which would have bolstered retained earnings. Further, we understand that these banks had already initiated steps towards bolstering capital via public issuances of equity and Additional Tier 1 bonds”.
Moody’s expects CBN to prioritise capital-raising measures across the industry this year, although details are yet to be provided. The regulator had earlier issued a directive to banks to retain foreign exchange revaluation gain-related profits, rather than distributing them as dividends.
The report said full implementation of Basel III capital standards is not yet achieved and the timeline remains unclear.
However, discussions between the regulator and the banks are ongoing. Banks’ profitability will strengthen as expected policy rate hikes will allow them to reprice loans at higher rates. The banks will continue to generate strong fees and commissions from digital channels.
Where applicable, the rating firm said banks will experience FX related gains from trading and asset repricing in a depreciation scenario, however, will not post revaluation gains going forward, in line with CBN’s new directive on net open positions (NOP).
The report explained that cost containment on account of banks’ cost reduction strategies will also boost profits, particularly where banks reduce foreign currency denominated expenses.
A levy imposed on commercial banks by the Asset Management Corporation of Nigeria (AMCON) and higher loan-loss provisioning costs due to inflation and currency devaluation will offset some of the profitability gains, but not to any material degree, it added.
The rating note stated that foreign currency liquidity challenges will persist despite policy reform. Nigerian banks have largely retained adequate access to foreign currency but will face some strains from wider system liquidity challenges this year.
The banks have large FX swap balances with the central bank, as well as a substantial backlog of foreign-currency forwards, most recently estimated at over $5 billion.
Nigerian banks get most of their funding from low-cost household current and savings account deposits. Market funds stood at 15.8% of Tangible Banks Assets as of June 2023, and relate to the issuance of Tier II and Additional Tier 1 capital or bilateral facilities from development banks and other financial institutions.
Nigerian banks’ funding strategies are cautious, a credit strength, prioritising the use of deposits to drive balance-sheet growth rather than borrowing from more volatile capital markets. The probability of government support in case of need is high. Analysts consider there is a high likelihood that the Nigerian government would step in to support banks if required.
The government has a strong track record of bank support, as well as more recent actions to preserve banking sector stability and governance. Moody’s said Nigerian banks do not benefit at the moment from any rating uplift related to government support because their standalone baseline credit assessments (BCAs) are already level with the sovereign’s credit rating.
The positive outlook on the sovereign rating is a positive sign, however, and the banks’ ratings would benefit in the event of a sovereign rating upgrade. #Moody’s Upgrades Outlook on Nigerian Banks to Positive # Court Orders FCMB to Deposit N540m Defamation Damage Awarded to Prophet Omale
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