The shifting sands of UAE bank capital

Posted by Tracy Alloway on Dec 01 15:45.

Here’s some useful data from ratings agency Fitch - a breakdown of how the capital of banks in the United Arab Emirates is likely to be impacted by the Dubai World debt restructuring.
It’s basically an updated version of Fitch’s capital sensitivity test for UAE banks, which the rating agency first conducted in September 2009:

The test (for those interested) assumes two years of ’stressed’ pre-impairment profit of 80 per cent of 2008 audited profits, and zero growth in risk-weighted assets. The test also assumes coverage of non-performing loans at 100 per cent and earnings retained rather than paid out as dividends.
Thus, according to Fitch:
These developments will add pressure on Fitch’s Individual Ratings for UAE banks and the agency will closely monitor developments and will comment further as more information becomes available. Most of the Long‐Term Issuer Default Ratings assigned to the UAE banks factor in support being provided from the UAE authorities, and as Fitch’s current view of the willingness to provide support has not changed, there are no additional Long‐Term IDR actions aside from the rating actions taken on 27 November 2009 (Dubai Bank, TAIB Bank, Tamweel; see www.fitchratings.com).
While the banks with the greater exposure concentration to Dubai generally are likely to be the most exposed — directly and indirectly — to DW and Nakheel, the larger banks in the UAE are unlikely to have avoided having exposures, given the size of their balance sheets and franchise across the whole of the UAE. To date, National Bank of Abu Dhabi (NBAD; rated ‘AA−’/Stable Outlook) is the only UAE bank to publicly acknowledge its exposure to the DW group, at USD345m, which is modest relative to its earnings and equity base.
. . .While the last reported date NPL and capital levels appeared comfortable across the sector, the results of the sensitivity test show that Dubai‐based banks’ capital positions were more sensitive to rapidly rising NPL trends. In particular Dubai Bank (rated ‘BBB−’/Negative Outlook) is clearly the most sensitive, with the test showing that NPLs would only have to rise by a moderate double digit percentage for a capital ratio of 12% to come under threat. Dubai Islamic Bank (Support Rating: ‘1’) is next, with a 166% increase required, however this is using end‐2008 NPLs, which are certainly higher now and so the absorption ability is lower than this. Most of the Abu Dhabi banks (which benefited from capital injected earlier in 2009) are less sensitive, with the exception of Abu Dhabi Commercial Bank (ADCB; Support Rating: ‘1’) whose 12% ratio comes under threat if its NPLs rise by 80%. The smaller banks in the other emirates also appear to be less sensitive than Dubai’s banks and ADCB.
Although, in general bank capital ratios have strengthened during 2009 as the institutions reduced cash dividends, slowed loan growth, converted federal deposits into Tier 2 capital and in some cases received direct injections of Tier 1 capital from their respective emirates’ governments, Fitch expects ongoing pressure on capital ratios. If rising impairments over the next six months are largely limited to DW and its related entities, the impact should be manageable for the banking sector, although such an outcome remains highly uncertain.
The reference to assumed UAE state support being factored into Fitch’s UAE bank ratings is interesting given that some seem to have wrongly assumed that the Nakheel sukuk also had implicit government support. Indeed, ‘implicit’ state support for some bank capital instruments seems to be dying a slow death in Europe, with Fitch now supposing that government support for banks does not extend to hybrid bondholders.
Of course, the UAE on Sunday pledged to ‘stand behind‘ its banks, and provided them with an uncapped liquidity facility, so state support does look to be a reasonable given for now. But nevertheless, according to Fitch, there are some headwinds facing UAE banks:To address any potential liquidity pressures for the sector, on 29 November 2009 CBUAE put in place an uncapped liquidity facility for use by both local and foreign banks operating in the UAE at a rate of 0.5% over the local interbank interest rate. The damage to Dubai’s reputation by DW’s announcement may negatively impact the banking sector’s ability to return to the debt capital markets following NBAD, ADCB and First Gulf Bank’s recent successful issuances. Emirates NBD PJSC (rated ‘A+’/Stable Outlook) remains one of the biggest issuers by value and had said that it would look to issue in early 2010, which may now be delayed and hence reduces its options for repaying a total of AED7bn of debt due during 2010. Loans/deposits ratios for the largest banks remain above 100%, putting further pressure on the banks’ ability to lend to support future economic recovery.

Related links:
Dubai world - the $26bn debt workout begins - FT Alphaville
What next for Nakheel? - FT Alphaville
The issue of shariah compliance and the Nakheel sukuk - FT Alphaville
What can Nakheel sukuk holders expect in a default? - SharingRisk dot Org