Risks to Nigerian Banks’ Asset Quality Loom in 2021 – Fitch
Nigerian banks’ asset quality is expected to weaken over the next 12 months-18 months, Fitch Ratings says in a new report.
Fitch explains that debt relief measures have prevented a material rise in impaired loans in 2020, forecasts the average impaired loan ratio to range between 10%-12% by 2021 as these measures end.
“Earnings are expected to recover gradually with the economy but remain exposed to further economic shocks from oil price volatility”, the Ratings added.
Bank asset quality has historically fallen with oil prices; the oil sector represented 28% of loans at end of first half 2020.
Upstream and midstream segments (nearly 7% of gross loans) have been particularly affected by low oil prices and production cuts.
However, the sector has performed better than expected since the start of the crisis, limiting the rise in credit losses this year.
It anchors this on combination of debt relief afforded to customers, a stabilisation in oil prices, the hedging of financial exposures and the widespread restructuring of loans to the sector following the 2015 crisis.
“The credit loss ratio for the banks under our coverage rose by 50bp to 110bp in 1H20 but remained well below the 380bp peak in 2016 (following the 2015 crisis).
“The low ratio mainly reflects regulatory forbearance on coronavirus-related restructured loans and associated provisioning policy being less than proactive.
In addition to solid revaluation gains and trading gains, the containment of credit losses will support profitability.
“With the expiry of relief measures and persistently weak oil prices, we believe the average credit loss ratio to lean somewhat toward the levels seen in 2016”, Fitch explains.
Rating Actions on Receding Near-Term Risks
In October, Fitch removed the Rating Watch Negatives (RWN) on the long-term issuer default ratings (LT IDRs), viability ratings (VRs) and national ratings on most Nigerian banks.
This rating action reflects the firm’s view of receding near-term risks to banks from COVID-19 and the oil price crash.
The RWNs had been placed in March as the crisis started to unfold.
In September, Nigeria’s sovereign rating was affirmed at ‘B’ and the Outlook revised to Stable (from Negative) as uncertainty surrounding the economic impact of the crisis had eased.
Differing Rating Outlooks
Explaining further, Fitch says it now has Stable Outlooks on the LT IDRs of Guaranty Trust Bank (GTB), Zenith Bank (Zenith), United Bank for Africa (UBA), Fidelity Bank (Fidelity), Sterling Bank (Sterling) and First City Monument Bank (FCMB).
The Rating says it considers that these banks have sufficient headroom at their current rating levels to absorb moderate shocks to its baseline scenario.
However, it has negative outlooks on Access Bank, FBN Holdings/First Bank of Nigeria and Union Bank reflecting bank-specific weaknesses which in its view, leave less headroom to absorb shocks as the crisis plays out.
Wema Bank’s ratings remain on RWN due to its weak capital position and pending a large capital-raising plan.
Operating Environment Still Weak:
Fitch maintains a negative outlook on the banks’ operating environment.
It said the economic fallout took a heavy toll on households and businesses and a return to ‘normal’ will take time and remains vulnerable to further shocks.
“Our baseline is that banks’ earnings will recover with renewed lending as economic activity recovers slowly but heightened asset quality risks will loom in 2021 and beyond.
“This could be the result of a long and drawn-out recovery, further oil price falls, or the expiry of temporary COVID-19 debt relief measures”, Fitch says.
The Central Bank of Nigeria’s (CBN’s) policy measures prevented a material rise in impaired loans to date and masked the underlying performance of loan portfolios.
Banks were allowed to restructure loans by providing their customers with principal and interest payment holidays of up to one year – until March 2021.
Read Also: Fitch downgrade SSA Banks outlook, cites rising regulatory risk in Nigeria
Eligible borrowers were households and businesses operating in the most stressed sectors, including oil and gas, agriculture and manufacturing.
Banks were also mandated by the CBN to grant payment holidays for loans to state governments and SME borrowers under its ‘intervention loan programmes’.
The latter also received a reduction in loan rates. As part of the monetary policy response since March, the CBN has cut the policy rates by a combined 200bp (currently at 11.5%).
As allowed by the CBN, loans restructured under COVID-19 measures were not considered a ‘significant increase in credit risk’ under IFRS9, preventing such loans from migrating to Stage 2, and therefore not requiring lifetime expected credit loss (ECL) provisions.
According to CBN data, about 40% of banking sector loans had been restructured under the COVID-19 measures at end-1H20, which highlights the extent of the crisis on borrowers.
These loans remain largely in the Stage 1 category and require lower provisions (12- month ECL) than loans classified as Stage 2 or Stage 3/impaired.
“We saw very little early stage migration of loans to Stage 3 during 2Q20 due to COVID-19”, Fitch says.
The average impaired loans ratio for Fitchrated banks has been broadly stable (6.3% at end-1H20) owing to improving metrics at some of the larger banks with loan restructuring, recoveries and write-offs.
Total loan loss allowance coverage of impaired loans was 86% at end-1H20. As allowed under regulatory forbearance, it appears that banks took a ‘bare minimum’ approach to booking forward looking ECL provisions in 1H20 despite the severity of the shocks.
Furthermore, most banks did not update IFRS9 model macroeconomic inputs at end-9M20 to reflect worsening macro assumptions, and provisions are likely to remain low in 2020.
How Has the Oil Sector Exposure Performed?
The oil sector has performed better than we expected at the start of the crisis with borrowers benefiting from debt relief and the stabilisation of oil prices in 2Q20.
Exposures have also held up due to financial hedging and the widespread restructuring of loans following the 2015 crisis.
The oil sector is the single largest sectorial concentration, representing around 30% of total loans at end-1H20.
Many oil related loans have been classified as Stage 2 since the 2014/2015 oil price shock. Our concerns in 2020 are in the ‘upstream’ and ‘midstream’ segments (i.e. around 7% of gross loans) which have been affected by low oil prices and production cuts.
According to the banks, the majority of these projects are viable at an oil price of around USD50 a barrel.
Oil-related loans have largely dictated banks’ creditworthiness in recent crises and remain a key risk to asset quality, profitability and, ultimately, capital.
A prolonged period of depressed oil prices and production cuts would inevitably cause distress in the sector and lead to further asset quality deterioration
The post Risks to Nigerian Banks’ Asset Quality Loom in 2021 – Fitch appeared first on MarketForces Africa.
source https://dmarketforces.com/risks-to-nigerian-banks-asset-quality-loom-in-2021-fitch/