Despite the falling interest rates, Saudi banks have fared strongly, with system loan growth having reached 11% YTD (and 14% YoY at 3Q20) from a CAGR of just 3% over the preceding three years, a report said.

This, in conjunction with government support measures (SR50 billion of interest free deposits, which helped bring Cost of funding down sharply) helped sector revenues grow 3% YTD, said the BofA report.

Furthermore, the banks were able to limit the fall in earnings to just 6% YTD, as cost control measures help offset a significant part of the 34% pickup in impairments. .

2021 gives some scope for optimism

BofA said its sees numerous reasons to be optimistic on the KSA banks looking in to 2021 including:

(1) The Saudi banks are entering 2021 from a position of strength, with tier one ratios above 17% on average, NPL coverage in excess of 140% and healthy liquidity measures.,
(2) the IMF sees Saudi posting the highest 2021 growth rate in the region, at 3.6% (vs. less than 2% for other GCC countries)
(3) we see strong loan growth, underpinned by continued strong growth in the mortgage market (>30% YoY growth expected in 2021) and the awarding of major Government contracts associated with the log awaited mega projects We see loan growth reaching 9% in 2021, with upside risks
(4) Margin decline is set to abate, with 4Q20 likely representing the bottom in net interest margins for the banks. The extension of Central bank support measures should also be supportive for margins given the cost of funding advantages provided
(5) Cost of risk is set to ease in to 2021 (particularly if the vaccine allows the Saudi economy to operate more freely); and
(6) We see scope for material growth in non-interest income streams diversifying away from using balance sheet (given low interest rates)

The uncertainties in the economic outlook and concerns over liquidity, capital and asset quality pushed the Saudi banks to refrain from paying a dividend in 1H20. With many of these concerns now having eased, the banks having greater confidence in the economic outlook (particularly given the potential for a global recovery underpinned by the roll out of the vaccine) and strong capital positions, we believe the Saudi banks will announce healthy dividends in conjunction with FY20 earnings, with an average yield of c. 4%.

The Saudi banks have posted a relatively strong performance in 2020 YTD, with the Tadawul banks index falling just 6% YTD. AS such, valuations are now relatively rich, with the Saudi banks trading at .almost 13x 2021earnigns, a c.15% premium to EEMEA peers. That is to say, we believe much of the positive outlook for the Saudi banks is already being discounted in the shares, leaving limited opportunities with significant upside.

With the central bank unlikely to hike rates for the foreseeable future and valuations now looking relatively full, our investment strategy for the Saudi banks remains to focus on banks with mispriced, stock specific growth stories.

“Specifically, we highlight banks who are benefitting from growth in the lucrative mortgage market (where yields are significantly more attractive than corporate loan yields), can deliver significant cost savings (e.g. via merger synergies) and are able to deliver strong non-interest income growth via advisory businesses,” the report said. – TradeArabia News Service