Stress Testing Kuwait Banks


Kuwait Financial Center “Markaz” recently released a report which stress tests the Kuwait banking sector against its Real Estate and Financial Services sector exposure. Kuwait banks have endured stress since the unfolding of the financial crisis in late 2008. They have had to grapple with significant exposure to real estate and investment companies, two sectors that contributed to bank’s vulnerabilities as they underwent devaluation during the crisis. After growing at an annual clip of 30% during the hey days (2004-2007), the sector witnessed a 70% plunge in its bottom line thanks to high levels of provisioning primiarly due to real estate declines and financial service distress. NPL’s skyrocketed to 10.8% of loans in 2009 from 2.7% in 2007. Loan growth fell nearly to 0% in 2010, a far cry from the 45% growth in 2007 in line with muted deposit growth and increased risk aversion. All this resulted in significant capital raising to strengthen the balance sheet and resurrect Capital Adequacy Ratio (CAR).

The question is how are they doing now after nearly 3 years of crisis and provisioning? We attempted to examine this issue by stress testing Kuwait banks primarily for two risks i.e, real estate and financial services sector exposure. We looked at declines in the sector’s in isolation as well as in combinations. The worst case scenario anticipates a 30% decline in both sectors. The sector is more vulnerable to Real Estate declines with recap needs ranging between KD 200 mn and over KD 1.5bn under different value declines.

The sector’s Tier I CAR stood at 17% at the end of 2010, higher than the 16% registered in 2009 as several bank’s increased capital during the year. The stress test showcases that while the current Capital Adequacy Ratios (CARs) are safely above the limit, the sector is still vulnerable to declines in asset values in two of the country’s most important sectors, Real Estate and Financials, more so in the former rather than the latter. As per the stress test, over half of the country’s banks would fall below the 12% CAR minimum should Real Estate and Financial Services assets decline by 20% or more. Under the worst case scenario (seeing a fall of 30% in both Real Estate and Financial Services), all but one of Kuwait’s banks would fall below the CAR minimum.

Banking Sector Performance

After averaging about 30% annual growth during 2004-2007, 2009 saw that average fall by half with sector earnings growing at 15%. Three banks registered losses while the rest all saw declines in their bottom lines. The situation normalized somewhat in 2010; the sector reported a net profit of KD 574 mn, 61% higher than 2009. Only two banks saw declines in net profit growth.

Interest Income has been weakening slightly, seeing two consecutive years of declines, 10% and 22%, respectively in 2010 and 2009. This, consequently, has fed into Net Interest Income, which was flat in 2010 and declined 4% in 2009.

Provisions against impairments and loan losses skyrocketed in 2008 to KD 787 mn, or 3.28% of loans. The same declined by 9% in 2009 and a further 31% in 2010 to KD 492 mn or 1.92% of loans.

The quality of the sector’s loan book (excluding Boubyan Bank and Kuwait Finance House due to differing reporting style) has fallen through the period between 2007-2010. The percentage of loans categorized as “High” quality was 60% in 2007, dropped to 50% in 2009 and is at 52% as of the end of 2010. Conversely, the percentage of Past Due and/or Impaired Loans increased from 10% in 2007 to nearly 20% in 2009 before settling at 14% in 2010. Past Due and/or Impaired loans increased 76% in 2008 and a further 29% in 2009 before declining 27% in 2010 to just over KD 3 bn.

Capital Increases

In light of rising NPL’s and depreciating asset values, Kuwait banks went through a round of capital increases in 2010. Eight out of nine banks raised capital by an average of 40% (100% in the highest case and 7% in the lowest) in order to boost adequacy ratios and combat asset devaluation. The sector’s aggregate capital was up 38%, or KD 531 mn, in 2010 (from 2008).

About Kuwait Financial Centre “Markaz”

Kuwait Financial Centre 'Markaz', with total assets under management of over KD 960 million as of March 31st, 2011, was established in 1974 has become one of the leading asset management and investment banking institutions in the Arabian Gulf Region. Markaz was listed on the Kuwait Stock Exchange (KSE) in 1997