EM Banks' profitability to help absorb risks from economic slowdown: Fitch

July 28, 2022 (MLN): The profitability of the emerging market (EM) banks will help them to absorb some of the risks they face from the global economic slowdown, Fitch says in its latest report issued yesterday.

As per the report, the 13% median return on equity (ROE) in 2021 for a sample of 100 large emerging markets debt-issuing banks (‘EM100’) is consistent with the higher risks associated with their operating environments.

The figure compares with 10% for an equivalent sample of developed market banks (‘DM100’). The EM100 banks’ profitability should help them to absorb some of the risks they face from the global economic slowdown, the report said.

The rating agency expects EM100 banks’ revenue in 2022 to benefit from higher margins following interest rate rises because assets can generally be repriced to a greater degree than liabilities.

The average net interest margin for the EM100 banks was 3.6% in 2021, and the highest for banks in Latin America (4.7%). Interest income represents a high proportion of the banks’ revenue, typically over 70% except for banks in Africa, where the proportion is about 60%. As a result, revenue is highly correlated with interest rates, the report said.

The report further mentioned that the EM100 banks’ LICs decreased to 1.2% in 2021 after a pandemic-driven spike to 2.0% in 2020. With cost/income ratios broadly stable in 2019–2021, the lower LICs helped ROE ratios to recover in 2021 to 2019 levels in most regions.

However, risks to the banks’ performance have increased in 2022 due to global macroeconomic pressure, which is likely to weaken asset quality and push up the cost of credit, it added.

Fitch expects EM100 banks’ asset quality to deteriorate in 2H22–2023 as the economic slowdown, higher inflation and interest rates put pressure on borrowers.

The EM100 banks’ loans/deposits ratios generally improved in 2020–2021 due to an influx of deposits, except for banks from the Middle East and China. Funding is largely from customer deposits (about 75% on average), but remains the lowest for EM100 banks from Latin America (66% at end-2021).

As per the report, some 17% of the EM100 banks’ ratings were on a Negative Outlook at end-June 2022. However, Fitch has since revised the Outlooks on many banks to Stable from Negative as a result of which the proportion of ratings on Negative Outlook decreased to 12% on 27 July 2022, which includes a concentration in Turkey.

The dominance of Stable Outlooks reflects the sovereign or shareholder support available to many of the banks, as well as rating headroom under our baseline macroeconomic scenario.

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