Navigating through the stormy sea: Here’s what will happen to Nigerian banks if the Naira is devalued
Last month, a leading investment banking firm, Renaissance Capital (RenCap), released a report on Nigerian banks titled “Nigerian banks navigating through the stormy sea.” This report explores the ripple effect of the current economic situation on Nigerian banks following the sharp decline in the price of oil since 2014, the weakening Naira and expectations of possible devaluation. The report also gave more insight on what would happen to Nigerian banks if the Naira is devalued.
According to the report, here is the threefold impact of devaluing the Naira on Nigerian banks:
According to the reports, banks with a higher proportion of forex Risk Weighted Assets (RWA), such as Guaranty Trust Bank (GTB), would see a bigger drop in Capital Adequacy Ratio (CAR). This is because a naira devaluation would inflate RWA. In the event of this, the First Bank of Nigeria Holding (FBNH), Ecobank Nigeria and Skye would be quickest to breach the minimum CAR requirements and feel the pressure to raise capital. From RenCap’s assumptions, Fidelity Bank and Stanbic IBTC are in the best position from a capital perspective, with capital buffers of 4 percent and 3 percent in the event of a 50 percent naira devaluation. The most sensitive banks to a weaker naira are GTBank, FCMB and Zenith because they do not have sufficient FX tier 2 capital buffers to shield them from the impact of a devaluation.
The report also stated that if the capital of some banks come under threat from a devaluation or asset quality pressure they can decide to cut their dividend payout ratios significantly. Specifically, Renaissance estimate GTBank and Zenith still have the most room to lower their payout ratios and could improve capital by as much as $86mn and $95mn, respectively, if they normalise their payout ratios in line with the sector average (30 percent), or as much as $218mn and $240mn, respectively, if they decided to pay no dividends in 2016.
Foreign exchange gains/losses
Since it is difficult to estimate the magnitude of FX gains or losses banks could make in the event of a devaluation, RenCap analysed Nigerian banks’ quarterly FX income in 2014 and 1Q15, checking for the sequential spikes in FX income in 4Q14 and 1Q15 – the quarters in which the Naira was devalued and trading restrictions were still largely non-existent, i.e. before their introduction in mid-February 2015. From their analysis, banks could make a decent one-off Foreign Exchange gains in the aftermath of a devaluation given their potentially long currency positions. According to the report, devaluation would only lead to a nominal one-off gain on currency positions, as an easing in trading restrictions is what could further increase the banks’ trading gains. In terms of growth in foreign exchange income, GTBank, Fidelity and Stanbic ranked top.
In a 2015 conference call by RenCap, GTBank management said that its currency position was $600m – $700m. This represents the volume of the bank capital that could benefit from a devaluation, which would reflect on the income statement through foreign exchange gains.
The read-through for us from the above is that the banks could make decent one-off FX gains in the aftermath of a devaluation given their potentially long currency positions.
A depreciating exchange rate, in an import-dependent country such as Nigeria, has implications for the banking sector’s asset quality. The Cost of Risk (CoR) levels is expected to rise in the sector this year by at least 70 bpts. This would be possible considering the sharp slowdown in GDP growth to between 2 and 3 percent, the ongoing FX restrictions and another highly anticipated devaluation.
The post Navigating through the stormy sea: Here’s what will happen to Nigerian banks if the Naira is devalued appeared first on Ventures Africa.