Rising cost of funds, tight liquidity put interest earnings outlook on edge for Nigerian banks

Despite the recovery in the Nigerian economy, as indicated by Q2 2017 gross domestic product growth numbers, earnings prospect for banks look tough as system liquidity remains tight for banks owing to aggressive open market operations by the Central Bank of Nigeria (CBN), analysts at Renaissance Capital have said in a banking sector update obtained by Businessamlive.

The analysts in a sector update titled, “Nigerian banks survival of the fittest”, released recently, explained that current tight liquidity regime, coupled with the difficulty in growing deposits, will most likely exert further pressure on funding costs, thereby paring income.

“With the improvement in FX liquidity, the banks have lost some of their naira deposits as customers that had kept deposits in anticipation of accessing FX are now able to do so. Further, the high treasury bill yields have made it more difficult for the banks to compete for deposits without compromising on costs,” they said.

Specifically, Yvonne Mhango, Rencap sub-Saharan Africa (SSA) economist, is reported to have forecast an imminent rate cut in the November Monetary Policy Committee (MPC) meeting, a scenario that would further compound lenders efforts at growing net interest income.

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“Our SSA economist Yvonne Mhango believes a 1-ppt cut in the policy rate is likely at the November Monetary Policy Committee (MPC) meeting, and another 1-2 ppts is likely in 2018. In such an instance, we believe a rate cut will be overall negative for the banks,” they noted.

“Consequently, we think the banks will struggle to grow their NII in a lower interest rate environment,” they said, adding, “For the entire banking sector, we believe that there is a risk to NIMs in FY18 given the scope for monetary policy easing.”

Despite the recovery in the economy, as indicated by 2Q17 GDP growth numbers of 0.5% year-on-year, they do not see the banks’ risk appetite changing in the short-term, adding that lenders have been very selective on loan repricing, and we would need to see significant loan growth before substantive NII growth becomes likely.

Equally, they expect that general business activity will start to slow down in 2H18, ahead the 2019 general elections. All of these factors, they said, could contribute to a delayed recovery for some of the banks.

They, however, noted that there has been a widening gap in return on equity (RoEs) generated by Nigerian banks over the past two years, saying that in FY14, average RoE in the sector was 18.1 percent, and this declined to 13.5 percent in FY16, improving to 16.7 percent in 1H17.

“Comparing returns of the Nigerian banks over the past two years, only four banks – GTBank, Zenith, UBA and Access – have managed to consistently deliver RoEs above 15 percent in this period. This compares to 2014 when all but one of the banks in our coverage universe delivered RoEs above 15 percent.

“SIBTC has also performed relatively better than its peers in this period, although it delivered an RoE of c. 13 percent in FY15,” they highlighted.

Indeed, between 2012 and 2014, the banks’ returns were largely affected by regulatory headwinds. We argue that lower returns in the sector since 2014 have been due to overall macro weakness, and internal structures as reflected in risk management practices.

“We conclude that a number of factors have contributed to the widening RoE differentials of the banks: some of the banks have benefitted more from the high domestic interest rate environment – mostly the more liquid banks, able to control funding costs, while the banks with ample foreign currency liquidity have been able to capitalise on FXshortages,” they said.