Banks in the Arab world are comparatively well insulated from the effects of the recent global financial disruption and ensuing recession, says Moody's Investors Service in a new comment.

However, Moody's notes that the region's banks continue to face challenges that vary dramatically from one sub-region to another, as reflected in the banks' different risk profiles.

''The main reasons for the resilience of Arab banks to the crisis are (1) the capacity among both conventional and Islamic banks to adapt to macro-economic adversity; (2) their minimal exposures to subprime-related asset classes; (3) government support and sometimes intervention; as well as (4) local and regional idiosyncrasies, explains Anouar Hassoune VP -senior  credit officer at Moody's Paris office and author of this report.

Moody's new report, entitled "Arab Banks: Shielded Domestic Market Underpin Resilience to Crisis", reviews the key factors that allowed most regional banks to maintain stable creditworthiness during this turmoil.
One key factor is that, with very few exceptions, banks in the Arab world had minimal exposure to subprime-related asset classes or structured debt derivatives, and fewer still to troubled global investment banks.

Moody's believes that this is because banks in this region had limited incentives to seek inflated returns abroad when domestic markets offered a far better risk-return trade-off.

The fostering of a largely insulated domestic market in the Arab world was also aided by the supportive -- and sometimes interventionist -- attitude of regulators and states, but it was also the result of much improved macroeconomic structures within countries.

"However, challenges remain and the current crisis has shed light on the different risk profiles of banks, contributing to the strengthening of some, while weakening others," says Hassoune.

The financial landscape of the Arab world had begun changing before the crisis, but the current environment is forcing faster adjustments. Moody's believes that banks will not see the benefits of these adjustments in the near term, but rather in the longer run.

The current issues in this sector vary dramatically from one sub-region to another. "This reflects the strong diversity of banking in the Arab world, despite increasing business, financial and economic intra-regional links," says Hassoune.

For example, while liquidity and asset concentration remain the issues among GCC banks, North African banks face the challenge of keeping up with the pace of banking reforms.

Overall, while Moody's maintains a stable outlook on most banking systems in the Arab world.

There are three GCC countries on whose banking systems Moody's maintains a negative outlook, namely Bahrain, Kuwait and the United Arab Emirates (UAE). These three banking systems have been the most affected by the liquidity drought, the sharp fall in asset prices (especially those of properties) and the dramatic negative impact suffered by specialised institutions (like investment houses and real estate companies) as a result of a concentrated, wholesale funding strategy and massive asset impairments.

This is particularly evident in the UAE, where a sharp rise in credit delinquencies has incrementally weakened banks' profiles. 

In the region of the Middle East and North Africa (Mena), Moody's rates 69 banks, including 49 in the GCC (of which 10 are fully fledged Shari'ah-compliant financial institutions), 13 in North Africa and seven in the Levant.