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Saudi banks | 2018 is transitional, favour Al Rajhi and AlJazira

Diminishing concerns but maintain cautious selection. We expect Saudi’s plan to mitigate the impact of fiscal reforms to support banks on both asset quality and liquidity fronts. For 2018, total government expenditure is budgeted to increase 13% to SAR978bn, the largest spending target, while the SWF plans to invest SAR83bn to stimulate infrastructure projects. The government’s commitment to deliver on its economic plans and open up to foreign investments is key for recovery in 2019. We continue to favour banks with strong fundamental buffers (Al Rajhi and Samba) and recommend AlJazira as the best value proposition among the 12 banks under coverage ahead of potential recovery.  

2018 is early recovery mode, but not for all. Saudi’s expansionary budget and tapping international debt markets will ensure stable liquidity for banks during 2018. We estimate deposit growth of 2.2% in 2018 vs. flat growth in 2017. The impact from adopting IFRS 9 in 2018 should be contained as we take comfort in banks’ asset quality metrics and financial capacity of Saudi corporates. We expect NPLs to rise by 7bps to 1.42% in 2018 (vs. +13bps in 2017e), and demand for credit to remain lacklustre during most of 2018 as the private sector adjusts to the new economic norm. We forecast a consolidated loan growth of 1.9% in 2018 (vs. 1.0% in 2017e), picking up to 6.8% in 2019e. Ramping up the launch of government projects, faster than our expectation, poses an upside risk to our assumptions.

Al Rajhi is our top pick. Al Rajhi offers the best mix of financial capacity and growth. The bank has the top asset quality (NPL=0.7%, coverage=326%), low construction exposure (4% of loans), largest general provisions (1.6% of loans) and highest profitability (RoE=18.0%). We expect Al Rajhi to continue outgrowing the market (+3.0% in 2018) by focusing on growing its corporate loan book and top exposure to consumer lending. Al Rajhi (14.2% of MSCI Saudi) should also benefit the most from a potential upgrade of Saudi’s market status to EM come June 2018. Samba continues to display the top set of fundamentals, but the conservative credit strategy and limited access to management could slow down the stock’s upward rerating. Samba’s balance sheet positions it at the top to capitalise on higher rates (NIM=+12bps to 3.1% in 2018). 

AlJazira offers the best value proposition; Initiate on NCB, SAIB with Neutral. We expect AlJazira’s asset quality and liquidity to remain stable in 2018 (NPL=1.3% and LTD=82.3%) and forecast recovery in credit growth (+0.8% in 2018 and +7.4% in 2019). The stock trades on the lowest P/BV of 0.7x (37% discount to peers) against a sustainable RoE of 10-11%. NCB is among the top positioned to benefit from the potential pick-up in government spending, yet the bank’s Turkish business (15-20% of NCB’s equity) is capping returns. SAIB has limited buffers, with the lowest NIB contribution (41% of total deposits) and weakest asset quality (NPL=2.0% and coverage=93%).