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Thursday, 5 September 2019

Fitch Ratings: Saudi Islamic banking dominant; asset quality weakened and profitability improved

Saudi Arabia has the largest Islamic banks' financing base (78%) of any country that allows commercial banks to operate alongside Islamic banks
Fitch Ratings says profitability improved in 2018 at Saudi Islamic banks as these benefited from stronger growth opportunities but asset-quality challenges continued. Saudi Islamic banks remain well placed in the banking sector as they have the largest retail franchises, supporting a lower cost of funding and better asset quality. Saudi Arabia has the largest Islamic banks' financing base (78%) of any country that allows commercial banks to operate alongside Islamic banks.
For 2019, financing growth will remain relatively muted. Capital buffers and profitability will remain sufficient to absorb a mild deterioration in asset quality.

Impaired financing ratios jumped for both Islamic and conventional banks in 2018, particularly due to the contracting, retail and retail/wholesale trade sectors. However, the deterioration was less pronounced in Islamic banks owing to sound performance of retail lending, particularly at Al Rajhi, the largest Saudi retail bank. The average coverage ratio of impaired financing remained higher in Islamic banks, particularly due to high coverage at Al Rajhi. Islamic banks now also have lower financing impairment charges than conventional banks due to their lower proportion of corporate banking.

Islamic banks' performance improved in 2018 and remained above conventional banks'. Performance benefits from a lower cost of funding (due to stronger retail franchises and a higher share of non-profit-bearing deposits) and a higher proportion of retail financing.

Reliance on deposit funding is less pronounced at Islamic banks due to the National Commercial Bank (NCB; the country's largest bank), which has the most diversified funding profile of Saudi banks. Deposit concentration is high, except at Al Rajhi, which benefits from a granular retail deposit base. The Islamic banks' financings/deposits ratio reduced slightly in 2018 and is now in line with conventional banks'. Islamic banks benefit from the Ministry of Finance's Saudi riyal-denominated sukuk programme to help manage their liquidity.

Capital ratios have decreased due to high financing growth. Nevertheless, Islamic banks are well capitalised, with an average Fitch Core Capital ratio of 17.9% at end-2018. This was 23bp above conventional peers as Islamic banks have higher proportions of retail banking assets, which attract lower risk weightings. Lower off-balance-sheet activities also result in lower risk weightings.

Four of Saudi Arabia's 12 licensed commercial banks are fully sharia compliant, with the others providing a mix of sharia-compliant and conventional banking products and services. All banks are regulated by the Saudi Arabian Monetary Authority with the same disclosure requirements. Recent guidelines from The General Authority of Zakat and Tax for sharia-compliant financial products are broadly comparable with those of conventional banks, ensuring similar rules for all banks.

© Press Release 2019

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