The robust profitability of Nigerian banks is expected to continue in 2024, enabling them to absorb higher credit losses and meet increased capital requirements, according to S&P Global Ratings.

The report, which assesses the resilience of Nigerian banks in the face of economic challenges, credits their strong earnings, high-interest margins, and diversified income sources as key to their stability.

S &P Global anticipates that Nigerian banks’ earnings will remain strong, largely due to increased interest margins driven by high interest rates set by the Central Bank of Nigeria (CBN). The CBN raised the monetary policy rate by a cumulative 850 basis points this year, reaching 27.25percent, which in turn has led to higher yields on government securities and loans.

This has bolstered the banks’ profitability as they navigate credit risks and the broader economic landscape.

S&P noted that Nigerian banks’ focus on digital capabilities has also helped them secure additional non-funded revenue during economic slowdowns. In 2023, non-interest income contributed to approximately 50percent of rated banks’ total income. This diversification in revenue sources has enabled banks to mitigate some of the risks associated with Nigeria’s challenging economic conditions, including rising credit losses.

S&P Global Ratings estimates that the CBN’s recent capital increase requirement will add an average of 400 basis points to top-tier banks’ regulatory capital ratios. This substantial increase is expected to enhance the banks’ ability to absorb losses, especially in an environment with high operating, credit, and currency risks. The bolstered capital levels will also better position Nigerian banks to compete against international and pan-African banking groups, particularly in the competitive trade finance sector

The report highlights that the recapitalization will not only strengthen the balance sheets of top-tier banks but also enable mid-tier banks to expand their lending to the real economy and enhance credit intermediation. This, in turn, could support broader economic growth as banks can extend more financing to businesses and consumers.

“ The last recapitalization in Nigeria’s banking sector took place in 2005, at a time when the naira was trading at about 130 to 1 U.S. dollar. Since then, multiple episodes of currency depreciation have weakened the value of banks’ USD-denominated capital. At the same time, the total size of Nigerian banks’ balance sheets has expanded significantly, growing by approximately 3.5 times in USD terms as banks expanded their reach within Nigeria and across Africa.

“The report points out that Nigerian banks hold substantial foreign currency exposures, reinforcing the need for strengthened capital to counterbalance currency-related risks, “ it stated.

S&P notes further that the volatility of the naira, while sometimes beneficial to earnings through trading gains, has eroded banks’ capitalization in USD terms. For instance, banks with long USD-denominated asset positions recorded notable trading gains following the naira’s depreciation in 2023. This trend continued into the first quarter of 2024, as additional revaluation gains were realized on USD-denominated assets due to continued currency depreciation. However, the CBN’s decision in February 2024 to lower banks’ net long foreign currency position to 0% of shareholders’ equity (down from 10%) has tempered these gains.

In evaluating Nigerian banks’ capital strength, S&P uses its proprietary risk-adjusted capital (RAC) ratio, which differs from the regulatory capital adequacy ratio due to the distinct risk weights applied in S&P’s methodology. According to the report,

It further noted that Nigerian banks face extremely high economic risks, which results in elevated risk charges in S&P’s RAC model and, consequently, lower RAC ratios. The report highlights that most Nigerian banks’ RAC ratios fall between 3% and 5%, in contrast to their regulatory capital adequacy ratios, which range from 16% to 30%.

While improvements in RAC ratios resulting from the recapitalization will not directly lead to credit rating upgrades, S&P indicates that certain banks might see strengthened stand-alone credit profiles (SACPs). SACPs reflect S&P’s assessment of a bank’s intrinsic creditworthiness, excluding the influence of sovereign constraints.

Top-Tier Banks’ Creditworthiness and Sovereign Ratings S&P Global believes that Nigerian top-tier banks demonstrate stronger intrinsic creditworthiness compared to the sovereign, evidenced by their ability to grow revenues and maintain profitability across economic cycles. In fact, the SACPs of top-tier banks exceed Nigeria’s sovereign rating by two notches. However, despite this relative strength, S&P does not rate Nigerian financial institutions above the country’s sovereign rating of ‘B-/B’ on the global foreign currency scale and ‘ngBBB+/ngA-2’ on the national scale. This approach reflects the risks posed to banks by the broader economic conditions and the impact of sovereign stress on their creditworthiness.

S&P’s outlook on most rated Nigerian banks remains stable, with exceptions for Ecobank Nigeria Ltd. and First City Monument Bank, which have negative outlooks. The stable outlook primarily mirrors the stable outlook on Nigeria’s long-term sovereign rating, as bank ratings are expected to align with sovereign rating shifts. Therefore, S&P concludes that the recapitalization exercise will not trigger any rating changes unless there is a notable improvement in Nigeria’s sovereign creditworthiness.

Nigerian banks are well-positioned to withstand higher credit losses, supported by robust earnings, strong net interest margins, and diversified revenue streams. The CBN’s increased capital requirements are expected to enhance banks’ loss-absorbing capacity, better positioning them for competition within and beyond Nigeria. While currency volatility and high economic risks continue to challenge Nigerian banks, their ability to generate consistent earnings through economic cycles underscores their resilience.

With strong fundamentals and planned capital enhancements, Nigerian banks are expected to maintain stability, provided there are no major shifts in sovereign creditworthiness. This stability is crucial not only for the banks themselves but also for Nigeria’s broader financial sector as it navigates complex economic dynamics.

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