(MENAFN- Capital Intelligence Ltd) Capital Intelligence Ratings (CI Ratings or CI) today announced that it has affirmed the Long-Term Foreign Currency Rating (LT FCR) and Short-Term Foreign Currency Rating (ST FCR) of QNB ALAHLI S.A.E. (QNB AA) at ‘B’ and ‘B’, respectively. At the same time, CI Ratings has affirmed QNB AA’s Bank Standalone Rating (BSR) of ‘b’, Core Financial Strength (CFS) rating of ‘bb+’ and Extraordinary Support Level (ESL) of High. The Outlook for both the LT FCR and BSR remains Negative.
The Bank’s BSR is based on a CFS rating of ‘bb+’ and an Operating Environment Risk Anchor (OPERA) of ‘b’ (indicating high risk), and incorporates the Bank’s capacity to withstand sovereign-induced stress. Egypt’s OPERA reflects the challenging economic situation given very high inflation and large socio-economic vulnerabilities. These challenges in part stem from significantly higher geopolitical risks, which in turn have led to large governmental external liquidity risks. Although the ESL is High (and despite CI believing parent Qatar National Bank [QNB] would have the willingness and ability to provide a high degree of extraordinary liquidity and capital support to QNB AA if needed), any potential uplift for the Bank’s LT FCR is constrained by Egypt’s sovereign LT FCR of ‘B’ and by the Negative Outlook on this rating.
The CFS rating is supported by the Bank’s sound capitalisation, consistently high profitability (both operating and net basis), and sound asset quality with strong credit absorption capacity. Also supporting the CFS is the very comfortable liquidity and funding profile based on customer deposits, and the high stock of liquid assets. Non-financial supporting factors include its market position as the second largest private sector bank in Egypt, its strong management and a broad business operation. The Bank has a well-established domestic franchise, and enjoys the support of very strong parent QNB (rated ‘AA’/‘A1+’/Stable by CI).
The main rating constraints are linked to the still very difficult operating environment. Although Egyptian banks have seen rising net interest margins (NIM), their customers have been negatively impacted by the very high inflation rate and consequent very high interest rates applied to combat this. This is compounded by the 600bp hike in the policy rate imposed to support the EGP ahead of the change to a market-based exchange rate mechanism. Although the previously acute foreign currency shortages in the local market have eased following large inflows of FDI funds from the UAE, the effects of these shortages have impacted the capacity utilisation levels and profitability of especially the private sector. There may therefore be negative credit implications for borrowers from this and from the high interest rates. Other credit challenges still include concentrations in both customer deposits and the lending portfolio – although these are features seen in many of the banks in Egypt despite (in the case of QNB AA) some improvement in 2023. Finally, QNB AA is heavily exposed to Egyptian government risk via the large portfolio of government securities – a common feature of bank balance sheets in Egypt. While high levels of government securities holdings will tend to boost headline liquidity ratios, it does expose the sector as a whole to systemic liquidity risk given Egypt’s elevated credit risk profile.
Headline capital adequacy ratios are sound in the Egyptian banking sector, albeit that this at least in part reflects the zero risk-weighting of government securities; most banks have large portfolios of such securities and accordingly a relatively low risk weighted asset (RWA) density. In comparing capital strength of Egyptian banks, Basel III leverage is perhaps a better metric – and QNB AA still has a relatively strong ratio, albeit down on that of end-2021. Another supporting factor when assessing capital adequacy (and funding) is the willingness and ability of a strong parent to provide both ordinary and extraordinary support. CI believes that QNB has the willingness to provide such support – and certainly has the financial capacity to do so.
QNB AA has been able to maintain strong profitability metrics throughout the economic cycle. As non-interest income (non-II) at Egyptian banks is not usually a large component of total income, profitability at the operating level is normally driven by loan volumes, and by (to a lesser extent) holdings of government debt securities, by NIM, and by the effectiveness of cost controls. QNB AA has performed well in all these areas, with NIM having been on a rising trend and with its cost-to-income ratio probably the lowest in the sector in 2023 (not all banks have reported year-end financial statements yet). Although the proportion of operating profit consumed by provisioning has been a little higher over the 2020-23 period, it has remained below 20%. Profitability at the net level has therefore also been good.
Despite quite strong NPL growth over 2022-23, customer loan growth has been sufficiently rapid to help to restrain the NPL ratio – loan asset quality remains good with a still slightly more than full loan loss reserve (LLR) coverage and a strong extended NPL coverage ratio. Although both coverage ratios have been trending downwards, loss absorption capacity is still considered to be good. The outlook for asset quality is however uncertain; the economic pressures on the Egyptian economy may well begin to impact asset quality indicators across the entire banking sector in 2024. Stage 2 loans are expected to rise at all banks. Liquidity metrics are also good with funding based on customer deposits, no dependence on interbank or capital markets and a high liquid asset ratio, albeit that this is a reflection of high holdings of government debt which are, in normal market conditions, a reliable source of liquidity.
Rating Outlook
The Outlook for the LT FCR and BSR is Negative, reflecting CI’s expectation that the ratings are likely to be lowered by one notch within the next 12 months, in line with the likelihood of a similar lowering of the sovereign’s ratings.
Rating Dynamics: Upside Scenario
As the Bank’s LT FCR and BSR are constrained by the sovereign’s ratings, we do not expect an upward change in these ratings or their Outlook unless either the ratings or the outlook of the sovereign itself was raised. This is now seen as being a possibility within a 12-18 month timeframe.
Rating Dynamics: Downside Scenario
QNB AA’s ratings could be lowered by more than one notch over the next year if Egypt’s sovereign ratings are lowered by more than one notch. This is however now seen as being unlikely given the increased external support that Egypt is receiving from the IMF, from the EU and from GCC countries in the form of FDI.
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