Banks may shake on MPC’s CRR move –Cardinalstone
The increase in cash reserve ratio by 500 basis points by the apex bank may wobble deposit money banks, CardinalStone analysts said in a report issued today. The increase is coming after the apex bank’s various earnings dilutive directives that underscore the financial year 2019.
In their separate estimate, some equity analysts observed that increased regulatory risk would affect banks’ earnings in 2020. In its latest meeting, the Monetary Policy Committee (MPC) announced an increase in cash reserve ratio (CRR) from 22.5% to 27.5%, the first rise since March 2016.
The leading investment banking firm said of all the considerations given for the surprise adjustment, the need to combat liquidity-driven inflation was notable. In its assessment, Cardinalstone said the impact of the CRR increase is likely to be diametrically opposed to that of the loan-to-deposit ratio (LDR) measure already at play, in our view.
A number of financial experts that aired their opinion on the apex bank’s hawkish regulation said it seems that the Central Bank of Nigeria is contradicting itself. They added that the CBN is curtailing the capacity of lenders to achieve loans to deposits ratio target.
It would be recalled that in the second half of 2019, the CBN raised LDR to 60% and then 65%. Many banks were unable to meet the target and about N500 billion was sterilised.
Analysts at Cardinalstone noted that while the LDR measure is configured to induce bank lending, the CRR increase could curtail banks’ ability to achieve that objective with more funds likely to be sterilized.
Analysts said the implication is that Banks’ effective CRR may increase. Despite the regulatory requirement of 22.5%, effective CRR have ranged between 27.0% and 35.0% in the sector, according to our recent correspondence with coverage names. CBN’s data also suggests an average effective CRR of 29.4% for deposit and non-interest banks as at September 2019.
“It is unclear if banks’ excess CRR would be applied to their credit upon assessment of compliance to the new regulatory CRR of 27.5%.
“Our base case scenario is that the CBN would enforce the additional 500 bps CRR on banks irrespective of their effective positions”, analysts said. Cardinalstone revealed that this assumption appears to be consistent with historical precedent that saw a 250bps increase in regulatory CRR to 22.5% in March 2016.
This cascade to a surge in effective CRR to 26.0% in March 2016 as against 23.7% previously.
“In contrast, we note that if banks’ excess CRR is applied to their credit in the evaluation of compliance to the new CRR of 27.5%, the MPC decision is likely to have an insignificant impact on our coverage names.
“We expect broad-based application of the measure. In our view, the 500 bps additional CRR is likely to be applied on already existing deposits, not on new funds alone.
“Although some banks have said they await clarity from the CBN in this regard, historical precedent suggests a retrospective application is on the cards”, analysts said.
Cardinalstone stressed that this could imply that an additional N817.5 billion of funds could be sterilized in the banking sector causing the effective CRR to increase to 34.4%.
“Banks’ liquidity could tighten, leading to a scramble for funds and a negative consequence for funding cost.
“Higher CRR and LDR requirements suggest that banks could potentially have limited funds for other play, including investments in treasuries.
“In our view, this could lead to a scramble for funds, especially in consideration of a likely slowdown in OMO maturities in coming quarters, and possibly slow down the previously expected moderation in funding costs for 2020”, analysts stated.
Analysts at the firm then foresee downside risks to banks’ earnings but observe mild implications for valuations.
According to analysts, they said theoretically, an increase in CRR invariably results in higher lending rates, given the resulting liquidity constraint for lending purposes.
“However, we do not see the MPC’s decision as a signal that the CBN is letting up on its LDR demands to banks.
“Hence, taking into cognizance the likely constraint on investments in government securities, we are slightly worried about prospects for earnings growth across our coverage”, analysts held.
Cardinalstone said: “While we see slightly higher than previously expected cost of funds for the financial year 2020, we retain our view that asset yields could remain depressed in the current year”.
“Although fixed-income yields could trend higher, banks’ ability to deploy funds to fixed income securities may be constrained by the CBN’s measures”, analysts added.
Notwithstanding, Cardinalstone analysts highlighted that they expect the impact to be less severe for UBA and ETI given their hugely diversified regional operations.
They also expect that banks with huge foreign currency (FCY) deposits to be less impacted than their peers given the exclusion of FCY deposits from CRR assessment. READ: CRR hike Fuels Bearish Sentiments as Average Yield Inches to 3.7%
“All in, we see the likelihood of a 4.3% reduction on average for our coverage earnings projections.
“However, we expect the impact to be minimal on our target prices—which could potentially fall by 0.8% on average—and hence, retain our recommendations”, Cardinalstone highlighted.
Banks may shake on MPC’s CRR move By Gbenga Anisere
