Banking across the GCC: Carving out a new future

The traditional world of banking is at an inflection point.

The economic upheaval posed by the Covid-19 pandemic, the resurgence of new variants and an accelerated demand for digital services have disrupted the traditional banking and wider financial services equation. More so, the emergence of new-age players dominating the customer interface and a rising mandate for greater value propositions within the existing product mix is driving incumbents to revisit their value chain, reassess their strategies and reposition themselves amid the evolving ecosystem.

Numbers back the momentum: Up to 45 per cent of traditional retail bank customers in the UAE are ready to switch to competitors within the next six months, a recent study by Arthur D. Little and M2P Solutions revealed. “Low rates, regulatory changes, and various new players entering the financial services landscape – including fintech companies, retailers, and telecommunications providers – are behind this trend,” the report stated.

However, banks are taking steps to address this issue, with the study finding that 61 per cent of 2,000 customers surveyed ready to turn to their primary bank for a ‘beyond banking’ proposition, as are 70 per cent of customers aged 25-44.

Pierre Mariani, partner, Financial Services Practice, Arthur D. Little Middle East, said: “Evolving customer demand accelerated digital transformation and the entry of new players is disrupting the traditional business models of UAE banks. These trends will continue to reshape the financial sector in the years to come, and banks that fail to embrace the change and make the necessary adjustments to serve their clients beyond existing services will inevitably fall behind.”

Traditional landscape
GCC banks, holistically, have had an encouraging year. Lending activity remained robust during Q3 2021 resulting in record high loan books, a report by Kamco Invest, which analysed financials reported by 60 listed banks in the GCC for the third quarter revealed. Aggregate gross loans at the end of the quarter reached $1.71 trillion, up 1.7 per cent q-o-q and 6.8 per cent y-o–y.

“Economic indicators remained strong in the GCC and sentiments remained elevated, especially with the recovery in oil prices as well as the almost complete removal of Covid-19 related restrictions on business activity. Vaccinations rates also remained one of the highest in the region, giving further confidence to the governments to resume some of the vulnerable sectors, including airlines and tourism. This was reflected in the PMI figures for UAE and Saudi Arabia that remained consistently and comfortable above the growth mark of 50 at 57.7 and 55.7 during October 2021, respectively,” the report suggested.

Total banking sector net profits also reached $9.4bn in the third quarter of 2021 as compared to $8.3bn during Q2 2021. However, profits continued to remain below the pre-Covid levels of $10.2bn reported in Q3 2019. Meanwhile, total bank revenue for GCC lenders increased by 3.3 per cent q-o-q to reach $22.6bn during Q3 after seeing a slightly higher growth of 3.5 per cent during the previous quarter with revenues of $21.8bn.

“Banks have showed resilience in 2021 and we expect that this trend will continue in 2022 absent any pandemic related risks. While the GCC economies are recovering thanks to higher oil prices and increasing government spending, some sectors remain under pressure such as aviation, hospitality and real estate development. The increase that we observed recently in real estate prices in the UAE may be short-lived as the structural oversupply of residential properties will challenge price increases over the long term, making the recovery fragile. We expect banks’ asset quality indicators to deteriorate only slightly as regulatory forbearance measures helped the corporate sector to deal with the negative effects of the pandemic,” explains Mohamed Damak, senior director, Financial Institutions Ratings, S&P Global Ratings.

“We expect the NPL (non-performing loans) ratio to rise in the next 12-24 months without exceeding 5-6 per cent, compared with 3.7 per cent as of September 2021. Under our base case scenario, we expect the Fed to start tightening from September 2022, which will prompt a similar reaction from the regional central banks to maintain their peg. Banks will benefit from such an increase – assuming no impact on asset quality (in case of faster than expected increase in rates). At the same time, lower global liquidity is likely to have a limited impact on GCC banks thanks to their strong net asset position or limited net debt position.”

Impetus for the future
While banks may have posted healthy returns and do aim for their bottom-line to reflect pre-pandemic growth, embracing the future also necessitates that they either adopt or review their digitalisation strategies and ensure product innovation.

According to a research study commissioned by Avaya and conducted by Davies Hickman Partners, six trends that are changing GCC banking include: Payments; mobile and omnichannel; customer data, analysis and segmentation; hybrid working and video; cloud and regulation; and fintech and innovation. Regulators across the GCC are also increasingly working to create an environment which fosters more sandboxing and innovation, although the pace varies amongst regulators, notes Asad Ahmed, managing director, Financial Services, Alvarez & Marsal.

“Saudi Arabia, for example, has recently licensed two digital banks and 16 fintech companies related to digital insurance and consumer loans. UAE too has licensed two digital banks and their final approvals are believed to be imminent. In our view, the new digital banks will introduce positive competition within the banking sector. It will encourage banks to provide services and products which have a greater customer-centric focus and will also help lower operating costs. Furthermore, the entry of digital banks in the sector will energise digitisation among the existing conventional banks.”

“The UAE Central Bank has also announced its 2023-2026 strategy, which includes issuing a digital currency and driving digital transformation in the nation’s financial services sector by utilising AI, big data solutions and developing a strong and secure financial cloud infrastructure. All of these measures will be simulated throughout the regional banking space as others look to implement their digital strategies and fi nd the best practices,” explains Ahmed.

More so, the use of digital channels and a greater need for an omnichannel experience has thwarted in-person branch interactions.

“Most executives say their banks are pursuing an app-centric banking relationship with both the SME and consumer segments, and that they have seen substantial increases in mobile banking interactions as a result of Covid-19,” the Avaya study noted.

However, Damak at S&P Global Ratings stresses that the human element will always be required. “In the next couple of years, we expect banks to continue to invest in their digital capabilities and to look for opportunities to further cut their costs (either by moving staff to cheaper locations or by cutting their branch network). That said, while the local authorities in several GCC countries are encouraging fintech through accelerators and sandboxes, we don’t expect a significant disruption of banks’ business because of fintech. Customers in the region still value the human interaction and advice they get through their banking relationship.”

What next?
Besides digitalisation and customer-centric initiatives, the underlying economic landscape will also be instrumental in determining the future of the regional banking ecosystem. “Volatile oil prices and the Covid-19 pandemic have significantly impacted the economic activity in the region, making it harder for banks to grow organically. Going forward, we will see a push toward M&A-led expansion in the sector. It is expected that in five years’ time there will be fewer large banks than there are today. The apex bank in the UAE has recently announced a new rule requiring domestic banks to have a minimum paid-up capital of Dhs2bn by 2023; the regulation is expected to drive the next wave of consolidation in the domestic banking sector,” says Ahmed. “Moreover, fintech companies are expected to stimulate M&A activity as well, with the potential to exert pressure on specific services (such as remittances, payments etc.) of traditional banks.”

Damak agrees that the payment and money transfer industry will face disruptions. “Another industry that could be disrupted is investment banking and particularly debt issuance. Standard legal documents and platforms using blockchain technology could challenge banks’ well-established position and o› er cheaper and more efficient avenues for the financing of the economy.”