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Fitch: Naira devaluation to have limited impact on banks

By on November 29, 2014

Fitch Ratings, a global rating agency, on Thursday said the Central Bank of Nigeria’s (CBN’s) decision on Tuesday to devalue the naira and raise interest rates would have only limited impact on Nigerian banks at present.

It however pointed out that foreign exchange risks were high for the sector.

A statement from the firm with dual headquarters in New York and London noted that Nigerian banks’ Viability Ratings, which reflect their intrinsic credit strength, are low (in the ‘b’ range) and incorporate the challenging and volatile operating environment in the country, adding that the monetary policy measures are unlikely to change the ratings.

The CBN devalued the mid-point of the naira’s official trading band from N155/$1 to N168/$1 and widened the band significantly from +/- three per cent, to +/- five per cent.

In addition, the CBN also raised the benchmark interest rate to 13 per cent, from 12 per cent, the first change since October 2011, and the cash reserve requirement (CRR) on private sector deposits was raised to 20 per cent, from 15 per cent.
But the CRR on public sector deposits was unchanged at 75 per cent.

“Around 40 per cent of Nigerian banks’ lending is in foreign currency, but they have small net long balance sheet positions to foreign exchange, so the impact of the weaker naira on banks’ credit risks, liquidity and solvency is likely to be manageable.

“The interest rate hike would not necessarily lead to higher impaired loans, but higher funding costs will compress margins,” it explained.

It however noted that for some banks, higher rates would lead to mark-to-market losses on government securities held in available-for-sale portfolios, saying its impact on capital is likely going to be moderate.

Fitch added: “We also expect cost of funding to rise because of further tightening in inter-bank liquidity owing to the higher CRR.

“The recent surge in banks’ United States dollar debt funding and lending leave banks more vulnerable to forex risks, especially if there is further devaluation.

“Nigerian banks have raised funding internationally over the last year helped by stronger investors’ appetite for Nigerian debt.”

The CBN, through a recent circular, had cut banks’ foreign-currency borrowing limits to 75 per cent of shareholders’ funds and had introduced a new 20 per cent net open position cap on overall foreign currency assets and liabilities (the one per centnet open position cap on the trading book remains unchanged) in late October.

The statement added: “All Fitch-rated banks are below the new limits, but we believe only four have sufficient capacity to raise benchmark size amounts within the constraints, so issuance volumes are likely to fall.

“The new net open position cap is also likely to curb the rise in US dollar lending, predominantly for the oil and gas and power sectors, where demand has been strong.

“Nigerian banks typically lend in foreign currency only to major corporate organisation that have US dollar income. Nevertheless, as they extend their forex borrowings, the devaluation could impact their debt servicing ability and raise asset quality risks for banks.”

Continuing, it stated: “Inflationary pressures from the devaluation could also affect consumer disposable income and banks’ retail loans. The forex limit could make it harder for banks to raise tier-2 capital to meet regulatory requirements.

“We believe capital ratios may fall 200-300 basis points with Basel II implementation in fourth quarter 2014 and revised capital rules, close to or below 15 per cent at some banks, which is low in Nigeria.

“The devaluation will also be a drag on capital ratios as risk-weighted assets of foreign-currency loans rise. But we expect this negative drag to be modest and largely offset by revaluation gains from long forex positions and retained earnings.

“Capital shortfalls may be met by raising common equity, if the FX limit constrains banks’ ability to raise subordinated tier-2 capital internationally since there are no established local currency debt markets to tap.”

 

[ThisDay]