The biggest beneficiary of the strong economic growth in the UAE has been the banking sector. Due to a relatively low interest rate environment, high oil prices and a flourishing economy, banking sector assets have witnessed strong growth. The UAE has a remarkably high number of banks to serve a population of around 4 million and an economy with an annual GDP of about US$130 billion. The UAE has 21 local banks, 25 foreign banks, two specialized banks and around 50 representative offices of other foreign banks.
National banks – dominance in the market
Banks in UAE primarily belong to two categories, national (local) and foreign, with the latter being restricted from operating more than five branches. Currently, there are 46 banks operating in the UAE, including branches and offices of foreign banks. There are 21 national banks in the UAE, all of which are listed either on the Abu Dhabi Securities Market (ADSM) or the Dubai Financial Market (DFM). Following the closing down of Standard Chartered Grindlays Bank (consequent to the merger of Standard Chartered with ANZ Grindlays), the number of foreign banks in the country came down to 25 at the end of 2005. Among the GCC countries, the UAE has the second highest number of banks after Bahrain. On the 31st July 2006, the Central Bank of the UAE granted Saudi American Bank (Samba Financial Group) and Doha Bank of Qatar full licenses to each open a branch to carry out commercial banking business in the UAE. With the opening of two branches by these banks, there will be a representation of GCC national banks from all GCC countries. Currently, the national banks present in the UAE are the National Bank of Oman, Al Ahli Bank of Kuwait and National Bank of Bahrain.
Abu Dhabi Commercial Bank (ADCB), which has made rapid strides this year, issued its debut international bond, which is the largest of its kind to be issued from the region. The first part of the bank’s US$2.5 billion euro medium-term note program has already been issued.
Islamic banking
A notable feature is the growth that Islamic banking has made in the UAE. A range of Shariah compliant products was introduced to the market and Islamic finance deals like Ijarah transactions have become common in property purchasing deals. The region has witnessed Islamic Sukuk attracting large investor volumes, with subscriptions exceeding expected issuance, even in big issues. Interestingly, the contribution from non-Islamic institutions to Islamic issues has been about 60% of the amounts issued.
The significance of Islamic banking has been further underlined as a few of the major banks have started an Islamic banking wing, or in some cases converted themselves into Islamic banks. For instance, EBI formed Emirates Islamic Bank by converting its subsidiary – Middle East Bank – into an Islamic bank. Market shares of most of the smaller Islamic banks, within the listed banks’ universe, have showed an improvement. Also, it can be seen that most of the larger banks, except NBAD, lost market share in terms of assets. Notable gainers among the medium-sized banks include First Gulf Bank and Abu Dhabi Islamic Bank.
Insurance hubs
The insurance sector grew by a cumulative average growth rate (CAGR) of 20.8% in gross premiums for the period 2000–2005. The boom in both oil and real estate had a lot to do with the sector’s performance. In fact, Dubai and Abu Dhabi are considered to be a hub for the insurance industry. In Abu Dhabi, the insurance sector focused on servicing the needs of the fast-growing hydrocarbon and construction industries, while the Dubai insurance sector was focused mainly on servicing real estate.
The UAE insurance sector outlook is good and it is expected to become one of the booming sectors within the economy in the medium term. Despite the bright outlook for the sector, challenges for such growth can be seen in the need for an organized regulatory framework. Such regulations would tackle the main issues of concern, such as capital requirements, consolidation and opening the sector for foreign players. Currently, the UAE insurance industry is still underdeveloped and less regulated than others, but has high growth potential. Recently, the government allowed a foreign presence in the sector. In the long run, insurance is expected to become more competitive, allowing foreign companies to participate freely as a part of the country’s policies and commitments within the World Trade Organization (WTO) and other regional agreements. According to a survey conducted by the Dubai Chamber of Commerce and Industry, expectations are pointing to the fact that free trade agreements (FTAs) will have a positive impact on the sector. FTAs will increase competition and improve services provided by the sector. In addition, they should open new areas of opportunity to improve business, decrease risks and extend the scope of e-commerce.
Historically, the International Monetary Fund (IMF) has long called on the UAE to review its insurance legislation and bring it up to international best practice standards. Currently a new law is under negotiation to regulate the sector. The Emirates Insurance Association is involved in drafting the new law and announced plans to reform the market for insurance brokers, consolidation to reduce the number of companies, and increasing capital requirements to force smaller companies to merge.
Abu Dhabi Islamic Bank
Abu Dhabi Islamic Bank (ADIB), established in 1997, is the primary Islamic bank in the Emirate. It is a fully fledged Islamic bank, carrying out all of its contracts, operations and transactions according to Shariah principles. ADIB has a 27% stake in an Islamic bank called Bosna Bank International in Bosnia and a 23% stake in Abu Dhabi National Takaful, based out of Abu Dhabi.
Recent developments
The US$800 million senior Sukuk trust certificates – issued under a US$5 billion trust certificate issuance program from ADIB – due in 2011, were assigned an A2 foreign currency rating by Moody’s Investors Service last November. Further, any senior Sukuk and subordinated Sukuk trust certificates issued under the program are rated A2 and A3, respectively. Expected ratings on ADIB’s US$5 billion trust certificate issuance program were also upgraded to long-term A from A-; short-term F1 from F2 for senior unsecured trust certificates; and long-term A- from BBB+ for subordinated trust certificates.
ADIB operates 40 branches with 70 ATMs and more can be expected this year. Its Shariah compliant open-ended investment Al Shorouq invests in emerging blue chip stocks and real estate projects. In addition, ADIB and CALYON recently announced the successful closing of the US$200 million syndicated Mudarabah restricted with commodity Murabahah financing facility for Bank TuranAlem.
Financial performance
As shown by its 2006 financial results, ADIB’s asset size increased to Dh36 billion (US$9.8 billion) from Dh22 billion (US$5.99 billion) in 2005. Murabahah and other financing surged by 63% to Dh31 billion (US$8.44 billion), while customer deposits swelled 33% to Dh24 billion (US$6.53 billion). Shareholders’ equity having reached Dh2.8 billion (US$762.4 million) by the end of 2006, rocketing at a rate of 40%, hence driving the share book value to Dh18.5 (US$5.037) per share, despite the capital increase that had taken place during the year 2006.
The total number of ADIB’s retail bank customers stands at around 180,000. The bank has been primarily undertaking Murabahah financing, but Ijarah financing is steadily rising with the bank’s plans to enter retail Ijarah financing in a big way.
Outlook
Increased competition in the Islamic banking arena will have an effect on ADIB’s margins. However, the bank can be expected to show strong growth with the government’s backing, thus making it a key player in the big-ticket government projects in Abu Dhabi. With its presence in the energy center of the UAE, ADIB will have access to the increased liquidity and projects due to the growth in the Emirate’s oil sector.
The management of ADIB, in order to tap the retail market, plans to adopt a three-tier approach to capture retail clients. Its targets are (in order of importance): high-salaried customers in Abu Dhabi and Al Ain, medium-salaried customers in Abu Dhabi and Al Ain, and non-salaried customers. Such an approach would move the bank from its traditional position as a corporate bank to the high margin retail banking customers. The bank has created a commercial unit and is targeting commercial customers for Islamic finance. Deposits are forecast to continue their double digit gain in the next couple of years. The bank is still looking favorably towards increasing its exposure in the real estate business, especially in Abu Dhabi.
The bank has shown strong performance in its core income and can sustain growth, albeit at lower levels than in the past.
What lies ahead for UAE banks?
UAE banks have benefited from strong economic growth during the last three years on the back of high oil prices and production. Buoyancy in capital market activity helped banks to register strong profitability by way of enhanced fee income. During the last three years, the credit deployment to consumer, construction and real estate and manufacturing segments was particularly strong. A number of real estate friendly regulations were initiated, which gave a further fillip to the real estate sector.
Going forward, the demand from the corporate as well as the consumer segment should remain strong, with the industrial and construction sectors likely to be the key growth drivers. Tourism, hotels and resorts are being promoted, which is likely to give a further fillip to loan growth. The manufacturing sector is likely to attract attention as there are lots of projects in the pipeline, particularly in the iron, steel and cement sectors. Changing demographics and the increasing expatriate population is likely to boost the consumer lending segment. Going forward, consumer lending is likely to be the key growth driver over the next two years.
On the funding side, banks are looking at raising funds by way of short and medium-term loans. The deposit franchises of banks registered a CAGR of 26% during the last three years. However, banks are raising funds in order to support loan growth with a longer duration. The above-mentioned big-ticket projects are long term in nature and hence in order to avoid asset–liability mismatches, banks are raising funds from the overseas market.
Core income is forecast to drive earnings growth. The thrust for diversification towards different economic segments is likely to result in demand for funds to remain strong. Core banking operations are likely to be the key focus areas in the years to come as non-interest or fee-based income declines due to the downward bias in the capital markets. The Government thrust towards providing further impetus to economic growth is likely to benefit the banking sector. In our opinion, the long-term outlook for the banking sector is positive, on the back of buoyant core banking activities.