Banks Jordan Jordanian Banks: 2019 Peer Review Challenging Operating Environment Constrains Banks’ Ratings Special Report Key Rating Drivers Rating Outlooks Stable Negative/RWN Positive/RWP Operating Environment Constrains Ratings: The Long-Term Issuer Default Ratings (IDRs) (%) of Fitch-rated Jordanian banks are driven by their standalone credit profile, as defined by their 100 Viability Ratings (VR), which are correlated with and constrained by the Jordanian operating environment. 80 60 Arab Bank’s (AB) IDRs are constrained but not capped by Fitch’s view on Jordanian sovereign 40 risk. AB’s geographical diversification in the Gulf Cooperation Council (GCC) and outside the MENA region, as well as about half of its holdings of liquid assets in Europe and other highly 20 rated sovereigns could help to offset the impact of a sovereign crisis. Nevertheless, AB’s high 0 exposure to the Jordanian sovereign relative to its equity via holdings of government securities Current End-2018 offsets, to a degree, the benefits of its geographical diversification and weighs on its ratings. Source: Fitch Ratings Challenging Operating Environment: The operating environment suffers from below- potential GDP growth, elevated unemployment and a challenging regional environment. The Stable Outlook on the rated banks reflects our expectation that Jordan’s operating environment will be stable in the near term. Resilient Asset-Quality Metrics: Jordanian banks’ asset-quality metrics have been well maintained through economic cycles, supported by the banks’ conservative risk appetites. The sector’s impaired loans ratio is declining (4.6% at end-1H18) as banks continue to clean up their balance sheets from legacy impaired loans. However, the ratio increased for some banks in 2018 as the implementation of IFRS 9 resulted in more conservative loan classification. Healthy Profitability Despite Margin Pressure: Jordanian banks’ net interest margins (NIM) came under pressure in 2018 as a result of rising funding costs (due to tighter liquidity) and limited assets repricing ability (due to high competition). However, pre-impairment operating profitability remains healthy, providing banks with good buffers against deterioration in asset quality without hurting their capital base. Adequate Capital Ratios: The sector average capital adequacy ratio was 17.2% at end-1H18, comfortably above the minimum regulatory requirement. We consider capitalisation to be only adequate given banks’ high loan book concentration and 0% risk weighting on local-currency sovereign debt and sovereign guaranteed exposures. IFRS 9 expected credit losses (ECL) charges had a manageable impact on most banks’ capital, ranging from 2%-5% of banks’ equity. Funding and Liquidity Strength: Banks continue to demonstrate strong funding profiles Analysts underpinned by large and granular retail deposits. The sector’s loans/deposits ratio remains Zeinab Abdalla healthy at below 80%. Banks maintain a comfortable stock of liquid assets, including interbank +971 4 424 1210 [email protected] placements, cash balances and sovereign securities. Gilbert Hobeika +971 4 424 1214 Limited Sovereign Support: Jordanian banks are mainly domestic (with the exception of AB), [email protected] and Fitch considers the sovereign’s propensity to support the banking system to be high. Ramy Habibi Alaoui However, the sovereign’s ability to provide support is constrained by its weak financial flexibility +44 20 3530 1649 and high reliance on grants and IMF support. [email protected] www.fitchratings.com 8 May 2019 Banks Ratings Highly Correlated with the Operating Environment Jordanian banks have high exposure to domestic sovereign debt and/or sovereign credit exposures, which increases the correlation between banks and the operating environment. This effectively constrains the ratings and applies, for example, to Jordan Islamic Bank (JIB) and Bank of Jordan (BOJ). AB is an exception in the Jordanian banking system. Its ratings reflect the bank’s geographical diversification, with notable operations (branches, subsidiaries and affiliates) in the GCC region, North Africa and Europe. Jordan represents less than a third of AB’s assets. The bank’s regional operations, and about half its holdings of liquid assets in Europe and other highly rated sovereigns (cash, placements and high-quality investment securities), could help to offset the impact of a sovereign crisis and enable it to be rated higher than its peers in Jordan. However, the bank’s high exposure to the Jordanian sovereign relative to its equity via holdings of government securities offsets, to a degree, the benefits of its geographical diversification and weighs on its ratings. Accordingly, AB’s ratings are constrained but not capped by the Jordanian sovereign. Fitch Rated Jordanian Banks Long-term Short-term Viability Support Support Bank name IDR IDR Ratings Rating Rating floor Outlook Arab Bank Plc BB B bb 5 NF Stable Jordan Islamic Bank BB- B bb- 4 B+ Stable Bank of Jordan BB- B bb- 4 B+ Stable Source: Fitch Ratings Ratings Navigator Summary Mid-point Operating Company Management & Earnings & Capitalisation Funding& score environment profile strategy Risk appetite Asset quality profitability & leverage liquidity bbb+ bbb bbb- AB bb+ AB AB AB bb JIB AB AB AB, BOJ and AB JIB bb- JIB, BOJ JIB, BOJ BOJ JIB BOJ JIB, BOJ b+ BOJ JIB, BOJ JIB b b- Red = Higher Influence on the banks’ VR Blue = Moderate influence on the banks’ VRs Light Blue = Lower influence on the banks’ VR Source: Fitch Ratings Related Criteria Bank Rating Criteria (October 2018) Jordanian Banks: 2019 Peer Review 2 May 2019 Banks Operating Environment Improving but Still Challenging Operating Environment The operating environment in Jordan is stabilising but remains challenging due to below- potential GDP growth, high unemployment, a difficult, although slowly improving, regional environment and rising social tension resulting from fiscal consolidation measures. The Stable Outlooks on the rated banks reflect our expectation that Jordan’s operating environment will remain stable in the near term. Fiscal Consolidation Underway Fiscal consolidation measures under Jordan’s three-year IMF Extend Fund Facility (EFF) signed in August 2016 are expected to lead to a gradual decline in general government debt. Fitch expects public debt to fall to 90.5% of GDP in 2020 from a peak of 95.6% in 2017. This reduction will be supported by a continued decline in Jordan’s fiscal deficit to an estimated 1.7% of GDP in 2020 (from 2.6% in 2017). The decline results from a drop in oil prices, fiscal consolidation measures, a new income tax law and reduction in subsidies. Jordan has been funding its fiscal deficit by a combination of mostly concessional foreign borrowing and domestic issuance. The banking sector has proved a stable investor in domestic government debt and domestic debt of sovereign-owned enterprises. Resilient Growth Despite Unfavourable Regional Environment Real GDP growth was resilient in 2018 at 2% despite the challenging regional environment but remains well below the average GDP growth rate of 6.3% for the period 2004-2011. We expect growth to remain subdued in 2019-2020, averaging 2% on the back of fiscal consolidation measures, higher interest rates and a gradual improvement in regional trading conditions. The reopening of border crossings with Syria and Iraq and improving tourism activity should support export growth. However, the challenging regional environment constrains the growth outlook and trajectory. Accordingly, we believe trade with the country’s neighbours may be slow to recover and reach pre-conflicts levels. Slight Pick Up in Growth and Reduction in Fiscal Deficit General government balance (RHS) Real GDP growth (LHS) (%) (% GDP) 3.5 0 -1 3.0 -2 2.5 -3 2.0 -4 -5 1.5 -6 1.0 -7 -8 0.5 -9 0.0 -10 2014 2015 2016 2017 2018 2019 2020 Source: Fitch Ratings Declining International Reserves but Peg Expected to Be Maintained Gross official reserves including gold (as published by the Central Bank of Jordan (CBJ)) declined by close to USD1 billion in 2018 but remained high at USD13.4 billion, which is about seven months of current external payments. The CBJ has increased its policy rate since January 2017 by a cumulative 200bp to prevent dollarisation. Fitch expects reserves to remain adequate and the peg to be maintained, supported by monetary policy. The country’s external position is also improving with the current account deficit narrowing to 8% of GDP in 2018 from 10.6% in 2017. This is helped by export growth, higher tourism revenue and constrained import demand. Jordanian Banks: 2019 Peer Review 3 May 2019 Banks Tight Monetary Policy to Preserve the Peg Regime CBJ foreign exchange reserves (RHS) CBJ policy rate (LHS) (%) (USDbn) 5.0 13.0 4.5 12.5 4.0 12.0 3.5 11.5 3.0 11.0 2.5 2.0 10.5 1.5 10.0 1.0 9.5 Jul 17 Jul 18 Apr 17 Oct17 Apr 18 Oct18 Jan 17Jan Jun 17 Jan 18 Jun 18 Feb17 Mar 17 Feb 18 Mar 18 Nov 17 Dec 17 Nov 18 Dec 18 Aug 17 Sep 17 Aug 18 Sep 18 May 17 May 18 Source: Fitch Ratings, Central Bank of Jordan Market Share Concentration Domestic Market Shares End-2017 (%) Assets (LHS) Loans (RHS) Deposits (RHS) (%) 20 25 Abbreviations Used 15 20 15 10 Arab Bank AB 10 The Housing Bank for Trade HBTF 5 5 and Finance 0 0 Jordan Islamic Bank JIB Bank of Jordan BOJ Jordan Kuwait Bank JKB Jordan Ahli Bank JAB Invest Bank (HBTF) Arab Bank Plc Arab Jordan Jordanie Capital Bank of Jordan CB Bank Al Etihad Bank ofJordan Investment Bank Jordan Ahli Bank Source: Fitch Ratings Housing Bank for Trade and Finance Cairo Amman Bank SafwaIslamic Bank Jordan Kuwait Bank Jordan Islamic Bank Societe Generale de Source: Fitch Ratings, CBJ, Bloomberg Capital Bank ofJordan The banking system in Jordan is formed of 25 banks, including four Islamic banks.