Low interest rates, higher effective tax rates, and competition from telcos and fintechs are some of the top risks Nigerian banks are likely to face in 2022, according to a report by Renaissance Capital.
In 2021, Nigerian banks faced significant margin pressure due to reasons such as the low interest rate environment, the central bank’s drive to reduce the high cost of its liquidity operations, and the punitive cash reserve ratio (CRR) regime.
According to the report, 2022 will also be a challenging year and banks may struggle to deliver earnings growth as a result of some risks they are likely to face. The risks are highlighted below:
Protracted margin pressure on low interest rate
According to the report, banks will struggle to see a marginal-to-moderate improvement in their margins as interest rates may remain low.
“We believe that margins bottomed in 2021 but struggle to see a significant shift in the interest rate environment going into 2022,” the report states.
The report also notes that although there is room for a rate hike during the year, which may be positive for loan yields but the regulator might opt to take a different stance given the moderation in inflation in the past few months, although there was a slight uptick to 15.6 percent in December from 15.4 percent in November.
“There is upside risk to T-bill yields from increased borrowing by the government, but yields may be kept flattish to help control debt servicing obligations and the regulator’s cost of liquidity operations.
“We have modelled for a marginal-to-moderate improvement in margins and note that interest income growth could benefit from low base effects of 2021.”
The higher effective tax rate
Nigerian banks will see an increase in their effective tax rate (ETR) as their tax holiday is over. According to the report, this could adversely affect their net income growth and returns.
In 2011, the former president of Nigeria, Goodluck Jonathan, signed a Companies Income Exemption Order, which decreed tax exemptions on T-bills, promissory notes, government bonds, corporate bonds, and the interest earned on these instruments for a period of 10 years, starting January 2, 2012.
Except for Federal Government bonds, the tax exemptions on these instruments expired on January 2, 2022, implying that from this year, the banks will start to pay tax on income earned on these instruments.
“On our estimates, T-bills and federal government bonds accounted for 19 percent and 7 percent of 9M21 assets at the banks in our coverage universe, respectively.
The management teams of various banks have given mixed feedback. While some feel the impact on their tax rate will be negligible others argue that it will be sizable. “We have increased our ETR forecasts by 2-3ppts across the board.”
Muted trading and revaluation gains
The report notes that the potential lack of volatility in interest and FX rates could hinder the ability of Nigerian banks to book major trading and revaluation gains in 2022.
In a volatile FX environment, the Nigerian banks’ earnings have been cushioned historically by trading income from interest rate movements and revaluation gains booked on their respective net long positions, the report states.
“Following significant volatility in 2020 and a relatively stable environment in 2021, we saw trading income and revaluation gains decline considerably during the year.
“For a uniform analysis, we computed the sum of trading and revaluation gains at the banks in our coverage universe and determined that the net amount declined by an average of 23 percent YoY in 9M21. The outlier was FBNH, which recorded a 10 percent YoY increase in 9M21 on a significant jump in its FX revaluation gains,” the report states.
According to Renaissance Capital, the naira is 12 percent overvalued and has a fair value of N473/$1 and except there is any negative externalities, there would not be any major depreciation in naira in 2022 as a result of strong oil prices and the upcoming elections in 2023, which could see the regulator opt to keep the exchange rate stable
“For the banks, this potential lack of volatility in interest and FX rates could hinder their ability to book major trading and revaluation gains in 2022,” the report states.
Heightened political risks
According to the report, banks will face heightened political risks as the 2023 elections draw closer.
“We raised our risk premium by 50 bpts to reflect the heightened political risk in the run-up to the general elections in February 2023,” they say.
Constrained loan growth on Basel III policy
While the Basel III policy creates certain benefits for the banking system, which includes a sturdier capital base, better leverage structures that can help prevent insolvency in times of economic stress, there are some issues worth considering.
“Increasing the capital adequacy requirements for the Nigerian banks could constrain loan growth in a bid to conserve capital. We have forecast 10-15 percent loan growth in 2022,” the report states.
Read also: Banking sector and new tax regime
The report also reveals that excess capital on the banks’ books could also be negative for RoE, given the elevated equity base it could create, as seen with the Egyptian banks. It could also affect the banks’ dividend payout policies.
“In our view, the banks best placed for Basel III are those that already meet the necessary requirements, and those with earnings diversification strategies i.e., holdcos with non-banking subsidiaries,” the authors say.
Competition from telcos and fintechs
A major risk Nigerian banks might likely face in 2022 would be the competition from telcos and fintechs. According to the report, there was meaningful growth in e-banking income, up by an average of 50 percent YoY in 9M21.
GTCO has completed its transition into a holdco, Access intends to complete its transition to a holdco this year with a payments business underneath, Stanbic announced plans to launch a fintech subsidiary and we await updates from FBNH on FirstMonie.
On November 5, 2021, the CBN granted an approval-in-principle (AIP) to MTN Nigeria and Airtel Nigeria to establish a payment service bank (PSB).
“We note risks regarding competition from fintechs and telcos which could secure their final payment service bank (PSB) licences in 2022,”
The licence will enable telcos to leverage their massive infrastructure rollout and dealer network to offer some banking services, especially to the underbanked.
