Moody’s forecasts Pak growth at 5.5pc in FY18, 5.6pc in FY19

KARACHI: US credit rating agency Moody’s Investors Service on Wednesday maintained B3 stable rating of Pakistan’s banking system considering steady fund inflows and growing economy, but it said high exposure to government securities poses ‘the biggest challenge’ to the sector.

“The outlook for banks in Pakistan (B3 stable) is stable over the next 12-18 months… driven by an accelerating economy and stable funding, while also taking into account the banks’ large holdings of low-rated government bonds, modest capital levels and high asset risks,” Moody’s said in a statement.

Moody’s has been maintaining a stable outlook on the banking system since November 2015. Constantinos Kypreos, a Moody’s senior vice president said the economic growth — boosted by domestic demand and China-funded infrastructure projects — will stimulate lending and support a slight improvement in asset quality over the next 12-18 months. “And, despite margin pressure, the banks’ profitability should remain flat. Stable funding from customer deposits and high liquidity levels represent further strengths.”

Moody’s Associate Analyst Corina Moustra, however, said the biggest challenge facing the banks is their large holdings of low-rated government bonds. “Modest capital levels and high asset risks pose additional risks.” The credit rating agency projected real GDP growth at 5.5 percent for the fiscal year of 2017/18 and 5.6 percent for FY2019. “Infrastructure investment and solid domestic demand will prove to be the main drivers of economic growth and will fuel lending growth of 12-15 percent for 2018,” it said. “The economy, however, remains susceptible to political instability and a deterioration in domestic security.”

Moody’s expected asset quality to improve in the current supportive macroeconomic environment, helped by the banks’ diversified loan portfolios and low corporate debt.

The agency said nonperforming loans measured 9.2 percent of gross loans as of 30 September 2017. “Asset risk remains high, however, due to weaknesses in the legal framework, inefficient foreclosure processes and scant information for assessing borrower creditworthiness.” In addition, the banks’ high exposure to low-rated government securities (44 percent of assets) continues to pose a key risk.

Moody’s said the banks’ capital ratios — with tier 1 at 12.7 percent as of 30 September 2017 — have declined, “but will recover gradually once higher regulatory requirements kick in this year and the next”.

“Capital will be boosted by higher profit retention, capital increases and capital optimisation measures,” it added. “However, based on Moody’s adjusted tier 1 ratio — which measured 6.5 percent at 30 September 2017 — the banks’ capital buffers are modest.”

The US credit rating agency said the banks’ profitability will remain flat, despite margin pressure. “The profits will be supported by strong lending growth, a focus on low-cost current accounts and moderate provisioning needs, despite interest margin compression,” it added. “The interest margins should level off towards the end of 2018, once pressure from the reinvesting of legacy high-yielding Pakistan investment bonds reduces, as the remaining of these mature.”

Moody’s said stable customer deposits and high liquidity levels will remain the banks’ key strengths. It added that customer deposits make up around 70 percent of total assets and they are expected to grow by 12-15 percent this year, “providing plentiful, low-cost funding”.