Unfazed, South African Banks Expand

South African banks are expected to soar above the country’s economic challenges, capitalizing on robust capital outlays, diverse investment, and resilience to shocks. These key attributes have helped stabilize the country’s financial services sector.

Against the backdrop of South African and emerging markets’ elevated inflation and of central banks raising interest rates in the past few years, predictions were that South Africa’s financial institutions would struggle with nonperforming loans.

FirstRand Bank, one of the largest commercial banks in South Africa, reported that bad loans had crept up, with the credit loss ratio for the half-year period to the end of December 2023 increasing to 83 basis points (bps) against 74 bps a year earlier.

Banks Reach Across The African Continent

South Africa’s financial services sector primarily comprises banks that are expanding their exposure in numerous sub-Saharan African countries as conditions back home stagnate.

Samira Mensah, director of financial institutions ratings at S&P Global Ratings, tells Global Finance that South African banks are currently “very profitable despite the tough macroeconomic conditions.”

Mensah notes that South African finance institutions are poised to maintain strong risk-adjusted returns of 15%-16% on average in 2024, supported by net interest margins and transactional revenue.

“The latter supports revenue and earnings resilience in an economic downturn. This, in turn, will support banks’ internal capital generation. Lastly, the finalization of banks’ plans to build up additional loss-absorbing capital will contribute to their balance-sheet strength,” she adds.

For FirstRand’s FNB retail banking outlet, which in February reported interim earnings for the half-year period to the end of December, there has been robust growth from digital channels that the report says “continued to deliver solid volume growth.” This aligned with the bank’s “strategy to drive customer takeup of digital interfaces and migration to the FNB app,” the volume of which was up 14%.

“Increased card activity also resulted in good growth in transactional volumes,” according to the South African retail bank.

Avoiding The Bumps

South African banks’ projected resilience and profitability mainly result from these finance institutions still having solid enough buffers to absorb additional asset-quality risks, given their robust pre-impairment profitability and stable solvency metrics, ratings agency Fitch adds.

“Lending growth, which decelerated in 2023, will remain muted in 2024, in mid-single digits. This is due to the slow improvement in domestic demand and private consumption amid the still-unreliable electricity supply, weak disposable income growth, and still-high market rates, constraining loan affordability for households,” said Fitch in a recent note on the South African banking sector.

Fitch adds that the corporate banking segment is set to drive lending expansion. The agency also details that South African banks have a high propensity to support their major sub-Saharan African subsidiaries.

Regional operations are necessary for the South African banks’ Pan-African strategies and to manage high reputational risks in case of a subsidiary default. In the case of Standard Bank, operations outside of South Africa have “continued to perform very well and delivered strong earnings growth period-on-period in both reported and constant” currency, according to the bank.

Standard Bank’s African regional subsidiaries’ contribution to group headline earnings has now climbed up to 44%, according to the bank.

“We believe support will likely be manageable for the South African banks, given their sufficient capital buffers and relatively small regional operations, which are well-diversified by country,” write the authors of Fitch’s note.

Mensah, S&P Global Ratings: Despite
headwinds, the South African markets are

Moody’s reckons that the South African banks’ robust capital generation will allow the banks’ Common Equity Tier 1 capital ratio to remain above 13%. At the same time, existing liquidity buffers and historically stable funding will continue to support financial stability.

The agency has assigned a “stable outlook for the South African banking sector,” balancing high macroeconomic and asset risk against the banks’ sound financial metrics and prudent risk management.

But for Brad Maxwell, managing executive for investment banking at Nedbank CIB, South African banks have become more relevant in Africa, having grown their lending businesses in primary sectors such as mining, energy, infrastructure, property finance, agriculture, and sovereign lending.

“Furthermore, clients banking with Southern African banks enjoy the convenience of moving funds across countries in Africa using a single electronic banking platform,” says Maxwell.

Nedbank has been going all out in building relationships with equity providers based in the rest of the world who generally invest in higher-risk sectors in Africa. This has helped the South African lender to act as an investment capital conduit into the rest of the continent.

With almost all other African economies growing at substantially higher rates than the South African economy, thus presenting desirable investment opportunities, South African banks are spreading their risks equally across sub-Saharan Africa, which has a population of some 1.5 billion people, including a young, largely educated, and urbanizing workforce with an entrepreneurial culture.

“While higher US dollar interest rates have increased the cost of capital, international investors from the Middle East, Europe, America, Australia and Asia are key sources of funding for the continent, and South African banks have been important conduits to tap international markets,” Maxwell explains.

Moody’s analysts expect the banks to record “stable profitability,” with a return on assets of around 1.1% owing to improved digitalization and high net interest margins, which are expected to “compensate for higher loan-loss provisioning needs” and the resultant subdued credit growth.

However, energy and logistic constraints hammering South Africa, restrictive monetary policies and high government debt are significant limits to South Africa’s growth potential, even for the banking sector—although higher average interest rates supported net interest margins for banks such as Standard Bank.

Nonetheless, the bank’s net interest margin expansion slowed down in recent months, given that interest rate increases have bottomed out.

“Lower demand reduced affordability, and competitive pricing pressure (particularly in mortgages in South Africa) resulted in lower disbursements to retail and business clients and a slowdown in growth in the related loan portfolios,” Standard Bank said in a trading update for 2023 year-to-date as of October 31. “Corporate origination remained strong, driven by energy-related opportunities.”

South African banks are nonetheless hedged against risks related to rising and falling interest rates as margins expand in a high-rate environment, cushioning against the impact of rising credit losses emanating from bad debts, Standard Bank tells Global Finance.

“In a rising interest rate environment, [South African] banks may see higher revenue growth through positive endowment. However, the cost of risk increases, and they may face higher credit impairments as clients have higher interest charges to pay.”

For its part, Standard Bank has benefited strongly from margin expansion while managing credit losses, although it describes the South African investment banking sector as “fiercely competitive: with well-established and sophisticated domestic, as well as some large international, banks.”