RIYADH: Gulf Cooperation Council banks are looking to diversify their business models and increase profitability by tapping into high-growth markets such as Turkey, Egypt and India, a new report shows.
Fitch Ratings noted that this growing interest is due to the favorable economic conditions and attractive growth opportunities in these countries.
In Turkey in particular, the urge for expansion has increased as a result of macroeconomic policy changes, while in Egypt interest has been fuelled by increased stability and privatisation opportunities.
Despite higher acquisition costs in these regions, GCC banks continued to focus on exploiting the potential of these markets to offset slower growth at home, according to the report.
According to a McKinsey report published in June, the GCC banking sector has consistently delivered high returns on equity and impressive valuation multiples compared to the world.
The strategic diversification of the GCC economies beyond oil, coupled with prudent regulatory frameworks, has strengthened the stability and profitability of the banking sector.
Increased interest rates have further boosted banks' profits, contributing to their earnings. Over the past decade, the region's banks have outperformed the global average in return on equity (ROE), maintaining a lead of three to four percentage points in 2022 and 2023.
Even though global bank valuations are at historic lows, GCC banks continue to generate value, with their return on equity exceeding their cost of equity.
Despite record profits for banks worldwide and in the Gulf States thanks to higher interest rates, McKinsey is urging executives to balance short-term profits with long-term strategic goals.
In order to remain competitive even as interest rates fall, investments in transformative change and greater efficiency are essential.
GCC banks' exposure outside their home region was concentrated primarily in Turkey and Egypt, where they held combined assets worth about $150 billion at the end of the first quarter of 2024, according to Fitch Rating.
This significant presence underlines the strategic importance of these markets for the growth ambitions of GCC banks.
In addition, there is growing interest in India, particularly from UAE-based banks, due to the strong and growing financial and trade relations between the two countries.
Turkey, Egypt and India each have significantly larger populations compared to the GCC countries and offer greater potential for banking sector growth due to their robust real gross domestic product growth prospects and comparatively smaller banking systems.
For example, the ratio of banking system assets to GDP in these countries is below 100 percent, while in the largest markets of the Gulf Cooperation Council it is over 200 percent, the report says.
In addition, the ratio of private credit to GDP in 2023 was significantly lower, at 27 percent in Egypt, 43 percent in Turkey and 60 percent in India, indicating significant room for expansion in these banking sectors.
According to Fitch, GCC banks are increasingly seeking expansion in Turkey due to the favorable turnaround in the country's macroeconomic policies following last year's presidential elections.
These changes have reduced external financing pressures and improved macroeconomic and financial stability, prompting Fitch to upgrade its outlook for the Turkish banking sector to “improving.”
Fitch forecasts that inflation in Turkey will fall from 65 percent in 2023 to an average of 23 percent in 2025. GCC banks are expected to stop using hyperinflation reports for their Turkish subsidiaries from 2027.
The improved stability of the Turkish lira is expected to increase the earnings of GCC banks’ Turkey operations.
At the same time, GCC banks are showing growing interest in Egypt due to the improving macroeconomic environment, opportunities offered by the government's privatization program and the expansion of GCC companies in the country.
Fitch recently raised its outlook for the operating environment of Egyptian banks to “positive” and expects greater macroeconomic stability.
This improvement is due to Egypt's comprehensive foreign direct investment agreement with the United Arab Emirates, a strengthened agreement with the International Monetary Fund, increased exchange rate flexibility and a stronger commitment to structural reforms.
Fitch expects the Egyptian banking sector's net foreign investment position to improve significantly this year, supported by robust portfolio inflows, remittances and tourism revenues.
Inflation in Egypt is forecast to fall from 27.5 percent in June 2024 to 12.3 percent in June 2025, possibly leading to interest rate cuts starting in the fourth quarter of 2024.
Fitch noted that while the Egyptian banking market has high barriers to entry, GCC banks may find opportunities to acquire stakes in three banks under the authorities' privatization program.
The expansion of Gulf Cooperation Council (GCC) companies, particularly those from the United Arab Emirates, could also lead to an increased presence of GCC banks in Egypt.
However, rising costs of acquiring banks in Turkey, Egypt and India could pose challenges to GCC banks' acquisition plans.
Price-to-book ratios have increased particularly in Turkey and India, reflecting better macroeconomic outlooks and lower operational risks. Acquisitions in these lower-rated markets could potentially weaken GCC banks' profitability ratings, depending on the size of the acquired company and the resulting financial profile.
Nevertheless, the long-term issuer default ratings of almost all GCC banks are protected by government support and are unlikely to be affected by these acquisitions. In this context, economic forecasts play a crucial role in shaping these expansion strategies.
In April, the World Bank updated its growth forecasts for several countries, taking into account significant opportunities and risks.
For example, Saudi Arabia's economic growth forecast for 2025 was raised from 4.2 percent to 5.9 percent, indicating robust long-term prospects.
For the United Arab Emirates, the rate for 2024 is now 3.9 percent (up from 3.7 percent previously), with a further increase to 4.1 percent in 2025.
Kuwait and Bahrain are also expected to see modest growth increases, while Qatar's forecast has been lowered to 2.1 percent for 2024 but revised upwards to 3.2 percent for 2025.
