Home Money Coronavirus pandemic heightens credit risk for Nigerian banks

Coronavirus pandemic heightens credit risk for Nigerian banks

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WED, MAY 13 2020-theG&BJournal- The current year is turning out to be one of an upsurge in credit losses as seen in the first quarter results of banks. Asset values are in ruin, as the crash in oil prices has set financial markets fretful, and the economic lockdown has heightened default risk.

A cursory look at the first-quarter results of some bank loans already projects a grim image of what to come at the end of the year when full charges would have been made.

In Q1 2020, UBA’s loan loss was N2.64 billion from N1.71 billion in the first quarter of 2019 while Access Bank’s loan loss grew to N8.58 billion from N3.37 billion of the first quarter of last year. For GTB, the loan loss in the first quarter was N1.22 billion as against N650 million of the corresponding period in last year while FirstBank saw a reduction to N9.7 billion from N13.8 billion of 2019 first quarter.

Zenith Bank in the first quarter 2020 recorded N3.95 billion as against N2.1 billion of first-quarter 2019 while FCMB had N3.67 billion from N2.28 billion of 2019. For Fidelity, the loan loss in Q1 2020 was N2.1 billion, up from N1 billion of Q1 2019, StanbicIBTC recorded N1.97 billion up from N1.39 billion of Q1 2019 while Union Bank loan loss for Q1 2020 was N3.5 billion from N776 million of Q1 2019.

The drop in loan impairment expenses in banks in the past two years reflects the recovery in crude oil prices. The coronavirus pandemic has driven oil prices well below the level that caused the biggest credit losses Nigerian banks have seen in history. The recognition of the shrink in asset values could gulp bank revenue and plunge bottom lines into the red.

Despite the government’s claims of economic diversification, Nigeria’s economy still hangs ominously around crude oil. GDP growth, equity prices, loan loss expenses, bank profitability, and more – all depend on what happens to the crude oil price. With the current drop in the oil price to less than one half of the budget benchmark for the year, the economy is seen to be headed straight into recession.

Claims of loan portfolio diversification by banks are also tested by drops in crude oil prices. Banks’ loan portfolios generally failed the test during the 2015/16 oil price drop. The resulting upsurge in credit losses drained bank revenues and consumed profits. Some banks are yet to return to the profit peaks attained before the massive loan impairment charges five years after.

Even now, the structure of bank credit portfolios still reveals that the life of a typical bank’s loan portfolio is in the crude oil price – it is quickened by an upturn in the oil market and deadened by a downturn. This year, the pendulum is on the downswing unexpectedly.

Developments in the economy are sending signals of another wave of credit losses to the banking sector. The link is between crude oil prices and the quality of assets in bank balance sheets. The assets were created at significantly higher oil prices than what the market presently offers. The big jerk down in asset values is already distributing losses to both lenders and borrowers.

A typical bank’s risk asset portfolio reflects the same structural problem that constrains the economy – where a few sectors dominate economic activity while the rest of the economy remain quiet from year to year.

No matter the level of diversification in the lending activity, bank credit portfolios are generally skewed to the side of oil and gas and related activities. In effect, the shocks from the oil and gas sector quickly throw most banks off balance.

Bank strategists need an extra mile effort to trace the oil and gas linkages to the credit portfolio. By the present classification, the banking sector’s exposure to oil and gas is calculated to be in the region of 30 percent of aggregate credit volume. In reality, this captures a considerably lower proportion of assets actually linked to oil and gas.

A marginal facility, for instance, is classified as an asset in the financial sector, yet its life is in the price of crude oil. Foreign portfolio capital that drives the local equities market here flees at the slightest suspicion of the oil price drop. The resulting dumping of equities crashes asset prices and lands local equities traders and investors suddenly in big losses.

Companies that are heavily dependent on foreign inputs, irrespective of their industry groupings, have their fortunes directly tied to the oil and gas sector. In reality, up to 90 percent or more of the contents of bank risk asset portfolios are oil and gas sector-related. This indicates that effective portfolio diversification of bank assets is yet to happen.

Bank lending tends to follow bandwagon moves that get every bank trapped in crisis. During the 2008 financial crisis, stock market meltdown melted margin facilities-dominated credit portfolios of all the banks and created trillions of naira of toxic assets.

Thereafter, banks abandoned retail lending generally and went headlong into oil and gas financing. The collapse of oil prices in 2015 hit all the banks once again, creating close to N2 trillion of credit losses in four years to 2018.

The frequent bubble and burst of bank credit portfolios are traced to a lack of adequate diversification across sectors and industries. While the industrial sector has been declining, the agricultural sector has maintained relatively stable growth and still remains the moderating factor in the continuing contraction of the industrial GDP.

The concentration of bank assets in a few sectors has continued to hinder bank management from balancing the volatile behavior of the industrial sector with the resilient performance of other sectors such as agriculture.

The danger posed by coronavirus pandemic apparently warrants another look by bank management at the components of their loan books. In an effectively diversified asset portfolio, the risk of individual components or classes isn’t going to be big enough to cause the type of operational volatility to which banks are presently exposed.

High volatility in earnings is a signal that risk weights within the asset portfolio have not been evenly distributed. Consequently, in the years when the high-risk asset classes are stable, the banks will record upturns in earnings. However, in the years when the big risk carriers are jolted, a backward swing in earnings will follow.

Such back and forth swings in earnings have continued to mark the performance records of banks for years. Despite a general decline in loan impairment expenses in 2019, the figures remain large for many banks big and small. With the increased loan-deposit ratio in force against heightened default risk this year, a bad year is apparently in the making for banks.

The implication of asset quality losses in the balance sheet will hit income statements through weak interest earnings and enlarged loan impairment expenses. This is sure to set bank management on another round of cost-cutting in order to defend profits. If this is allowed to happen, a lot of workers presently sent home on economic lockdown might not be allowed to return.

This analysis was first published by our content partner, Inside Business

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