By Peter OBIORA InvestAdvocate
Lagos (INVESTADVOCATE)-Global credit rating and research agency, Fitch Ratings on Thursday said the recent devaluation of Nigeria’s local currency, the naira and hike in interest rate will only have limited impact on banks; but foreign exchange (FX) risks are high for the sector.
Fitch said in its latest report about 40 percent of Nigerian banks’ lending is in foreign currency, but they have small net long balance sheet positions to foreign exchange, ‘’so the impact of the weaker naira on banks’ credit risks, liquidity and solvency is likely to be manageable,’’ the report affirmed.
In terms of interest rate, the Central Bank of Nigeria (CBN) hiked the benchmark interest rate to 13 percent from 12 percent, the first change since October 2011. Similarly, the CBN increased the cash reserve requirement (CRR) on private sector deposits to 20 percent from 15 percent.
‘’The interest rate hike would not necessarily lead to higher impaired loans, but higher funding costs will compress margins,’’ Fitch said.
The global credit rating agency affirmed that for some banks, higher rates will lead to mark-to-market losses on government securities held in available-for-sale portfolios, ‘’although the impact on capital is likely to be moderate,’’ the Fitch report added.
‘’We also expect cost of funding to rise because of further tightening in inter-bank liquidity owing to the higher CRR. The CRR on public sector deposits remains unchanged at 75 percent,’’ it said.
On the FX high risks, Fitch noted that the recent surge in banks’ US dollar debt funding and lending leaves banks more vulnerable to FX risks, especially if there is further devaluation. ‘’Nigerian banks have raised funding internationally over the last year helped by stronger investor appetite for Nigerian debt,’’ the agency added.
Fitch said Nigeria’s central bank cut banks’ foreign-currency borrowing limits to 75 percent of shareholders’ funds and introduced a new 20 percent net open position cap on overall foreign currency assets and liabilities, while the one (1) percent net open position cap on the trading book remains unchanged in late October.
The agency says the banks it rated are below the new limits, but believes only four (4) have sufficient capacity to raise benchmark size amounts within the constraints,’’ so issuance volumes are likely to fall,’’ it affirmed.
The global rating firm noted that the new net open position cap is also likely to curb the rise in US dollar lending, predominantly for the oil, gas and power sectors, where demand has been strong.
It said Nigerian banks typically lend in foreign currency only to major corporates that have US dollar income. ‘’Nevertheless, as corporates extend their FX borrowings, the devaluation could impact their debt servicing ability and raise asset quality risks for banks. Inflationary pressures from the devaluation could also affect consumer disposable income and banks’ retail loans,’’ it disclosed.
According to Fitch, the FX limit could make it harder for Nigerian banks to raise Tier 2 capital to meet regulatory requirements and capital ratios may fall 200-300bp with Basel II implementation in the fourth quarter (Q4) of this year and revised capital rules, close to or below 15 percent at some banks, which is low in Nigeria.
The agency says the devaluation will also be a drag on capital ratios as risk-weighted assets of foreign-currency loans rise. However, it expects the negative drag to be modest and largely offset by revaluation gains from long FX positions and retained earnings.
Also, Fitch added that capital shortfalls may be met by raising common equity, if the FX limit constrains banks’ ability to raise subordinated Tier 2 capital internationally since there are no established local currency debt markets to tap.
Nigeria’s central bank on Tuesday devalued the naira from N150-N160 to N160-N176 compared to $1.0.
Following this development, Fitch say Nigerian banks’ Viability Ratings, which reflect their intrinsic credit strength, are low (in the ‘b’ range) and incorporate the challenging and volatile operating environment in the country, ‘’so the policy move is unlikely to change the ratings,’’ the agency noted.
