Banks in Jordan remain strong despite regional instability

A major engine of domestic growth, Jordan’s financial services sector maintained an upward trajectory in 2014 despite a rising tide of regional instability. The kingdom’s mature, well-developed banking sector in particular is a major strength, with profits and lending both showing an increase.

Regional competition and low risk appetite, however, meant that the Amman Stock Exchange (ASE) did not perform up to par in 2014. It struggled as market capitalisation fell to historic lows, although moves to open the exchange to sharia-compliant instruments could see the situation change. The insurance sector, meanwhile, performed strongly in 2014, recording double-digit growth in net profits and solid expansion of assets and premiums.

Ongoing reforms to the financial services sector, which represents the kingdom’s second-largest contributor to GDP growth, will offer critical long-term support. On this front, the government made a number of regulatory changes in 2014. New corporate governance regulations from the Central Bank of Jordan (CBJ), aimed at improving transparency and accountability, will be an important safeguard against domestic banking crises. Further reforms at the ASE, meanwhile, look set to bolster the exchange’s recovery, as should several e-services that were adopted to simplify procedures and streamline the sector. Two further reforms being mooted for the near future are the establishment of a licensed credit bureau and the liberalisation of third-party liability insurance tariffs.

Banking

The Jordanian banking sector has benefitted from over half a century of expansion that began in 1948 when Arab Bank relocated its headquarters from Jerusalem to Amman. The sector is an important economic pillar, with finance and insurance services contributing JD2.55bn ($3.6bn), or 13.9% of total GDP, in 2014, according to data from the Department of Statistics. Despite a challenging geopolitical backdrop, the sector remains well capitalised and well regulated, and has expanded steadily in recent years on the back of deposit growth, despite a slowdown in lending. According to data from the CBJ, the total assets of licensed banks have grown by nearly 30% since 2010, rising from JD35bn ($49.2bn) to JD44.9bn ($63.2bn) in 2014. Foreign reserves also reached $14.97m in July 2015, the highest level in the kingdom’s history. “Jordan’s political stability is one of its most prized attributes. It provides assurance for foreign investors and is the foundation upon which the banking sector grows,” Yousef Ensour, general manager of Bank Audi, told OBG.

Sector Players

As of December 2014 there were 25 banks operating in Jordan, 15 of which are listed on the ASE, and the kingdom is home to a wide variety of local, regional and international players. Arab Bank is the largest domestic institution, while both regional and global institutions are active in the market, such as National Bank of Kuwait and Standard Chartered.

The kingdom is home to four Islamic lenders, Jordan Islamic Bank (JIB), Islamic International Arab Bank, Jordan Dubai Islamic Bank, and Saudi Arabia’s Al Rajhi Bank; and three publicly-owned credit institutions, the Agricultural Credit Corporation, the Housing and Urban Development Corporation, and the Cities and Villages Development Bank.

Banks have tended to focus on the retail segment, although they have increasingly shifted their attention towards small and medium-sized enterprises (SMEs) and the burgeoning microfinance segment. “Until recently, SME growth in the country was stymied because most banks were doing well and had no reason to offer loans to more risky SMEs,” Haethum Buttikhi, head of private and retail banking at Jordan Kuwait Bank, told OBG. “The importance of SMEs to the national economy is now well recognised, and the government has worked with multilateral institutions to boost lending.” This is expected to strengthen Jordan’s role as a launch pad for startups and SMEs.

Central Bank

The CBJ has taken a prominent role in the development of the sector in recent years, strengthening its macro-prudential framework and enforcing tight regulations to ensure that banks’ intermediation of foreign exchange flows does not lead to balance sheet mismatches. In its 2014 Article IV Consultation for Jordan, the IMF praised the CBJ for moving to expand its mandate in recent years, with its new responsibilities including safeguarding financial stability and regulating the microfinance sector, a fast-expanding segment with assets now equivalent to 0.6% of GDP and serving over 1m people.

Most recently, the CBJ enacted new corporate governance regulations aimed at improving transparency, accountability and ownership structures in September 2014, a move which is expected to help the sector maintain both stability and a competitive advantage on the regional and international stage (see analysis). The government has also introduced an automated system for the collection of financial soundness indicators, which will allow more timely and frequent monitoring and analysis, as well as expedite the launch of an early warning system in order to monitor systemic risks.

The IMF has highlighted several areas with room for improvement, however, noting in its report that there is further scope to expand supervision of overseas activities (40% of banking assets in Jordan are held offshore) and build up in-house expertise. In addition, it characterised delays in the licensing of a planned new private credit bureau, under development since 2008, as regrettable, writing that “an operational bureau, together with new insolvency and secured lending laws, will improve banks’ monitoring of debtors and thus enhance access to credit”. According to Kamal Al Bakri, general manager of Cairo Amman Bank, “The establishment of the credit bureau will be a step in the right direction for the banking sector. It will take two years to build a culture of credit history, but the long-term benefits will be significant.” This sentiment was echoed by Rajai Kossous, deputy general manager of Jordan Commercial Bank, who told OBG, “Though it will take some time for the credit bureau to be fully operational, it will be very useful once up and running. However, it remains to be seen how useful will it be when lending to SMEs.”

In early March 2015 an operational licence was issued for the new credit bureau, and it is expected to be fully operational by the end of 2015.

Growth In 2014

Bank Audi reports that Jordan’s banking sector saw satisfactory growth against a challenging regional backdrop in 2014, with aggregate assets rising 4.8% year-on-year (y-o-y) to reach $63.3bn at the end of December, in line with the kingdom’s moderate overall expansion.

Awraq Investments reports that 11 of 15 listed Jordanian banks saw an increase in net income over the first nine months of 2014; eight of them recorded double-digit growth. Arab Bank had the highest net income, growing this by 4.5% to reach JD305.39m ($429.7m) during the period, while second-place Housing Bank for Trade and Finance reported a 14.5% rise in net income to reach JD90.2m ($126.9m). The highest growth in net income came from Jordan Ahli Bank (JAB), which saw this figure soar by 132.6% to reach JD32.2m ($45.3m), followed by the Arab Jordan Investment Bank, which saw growth of 39.2% to reach JD17m ($23.9m), and Société Générale de Banque Jordanie (SGBJ), 38.5% growth to reach JD7.05m ($9.9m). In terms of interest income, nearly all of Jordan’s listed banks reported growth during the third quarter of 2014, led by SGBJ and the Jordan Dubai Islamic Bank, both of which saw a 35% increase, followed by JIB, which recorded 26.2% growth by this measure, according to Awraq Investments.

Soundness indicators remain strong. The industry’s primary liquidity ratio stood at 36.7% at the end of 2014, while the sector’s overall capital adequacy ratio (CAR) stood at 17.4%, according to Bank Audi, well above the Basel Committee’s requirement of 10. 5-13% and the CBJ’s 12% benchmark. The sector has a low non-performing loans ratio, at 7% in 2014, with loan loss provisions standing at 76.4%. The industry also remains profitable, with an estimated 1.4% return on assets in 2014 and an 11.7% return on equity, according to Bank Audi. With deposit growth outpacing lending, the industry’s loan-to-deposit ratio continued to decline in 2014, reaching a nineyear low of 63.7% in December 2014. This provided capacity for increased lending activities, although prevailing external circumstances have had an impact on risk appetite in the kingdom, and could see the loan-to-deposit ratio decline further in 2015.

Deposits

According to Bank Audi, industry growth in 2014 was largely driven by customer deposits, which account for over two-thirds of banks’ total balance sheets. Deposits expanded by a robust 9.7% in 2014 to reach $42.7bn at the end of the year, a $3.8bn increase, compared to a $3.7bn rise in 2013, highlighting the solidity of the sector. Of this total, private sector deposits comprised 83%, with the remainder owed to the public sector. Deposits from non-public financial institutions and the Social Security Corporation fell slightly in 2014. Resident deposits rose by 8% and non-resident deposits, though lower in total volume, grew by 10.9%. Local currency deposits were responsible for all deposit growth in 2014, rising by 14.3% to reach $4.2bn, while foreign currency deposits contracted by $400m, according to Bank Audi.

This could be seen as an advantage, however, as the industry reaps benefits from a stable, retail-oriented deposit base which has limited reliance on foreign funding. Bank Audi reports that the sector’s foreign liabilities did not represent more than 15% of total balance sheets in 2014, thus indicating a degree of insulation from volatility overseas.

Lending

While deposits have shown successive years of growth, lending increases have been more muted, despite the CBJ having cut interest rates five times since 2011. The latest of these, in 2015, indicate the bank is adopting an expansionary policy emphasising domestic growth. In February, the CBJ shaved 25 basis points off its benchmark rates and reduced the “overnight deposit window rate” by 100 basis points. The move trimmed the discount rate to 4%, the overnight repo rate to 3.75%, and the rate on weekly/other repurchase agreements to 2.75%. In July 2015, the central bank cut these three rates again by 25 basis points, citing decreasing inflation (to -0.8% in January-May 2015), growth in remittances overseas, the attractiveness of the Jordanian dinar as a savings currency combined with record levels of foreign reserves (more than $15bn).

The earlier rate cuts did not translate into stronger loan growth, however. The CBJ reported that lending activities rose by just 1.8% in 2014, with the total stock of credit facilities reaching $27.12bn at the end of the year. Lending to the industrial, general trade and transport sectors all declined in 2014, though the construction and hospitality sectors both witnessed healthy increases. Tourism lending rose by 13.5% to JD571.5m ($804.2m) in 2014, up from JD503.5m ($708.5m) in 2013, while construction lending increased by 11% to JD4.55bn ($6.4bn), up from JD4.09bn ($5.8bn) in 2013.

Lending growth was driven entirely by new credit facilities offered in local currency. Foreign currency lending, Bank Audi reported, contracted in 2014 for the first time in five years. The majority of credit facilities were channelled into the private resident sector, which comprised nearly 90%, or JD17.3bn ($24.3bn), of total credit facilities extended in 2014. This underscores the emphasis on lending for private sector development to boost overall economic activity.

External Vulnerability

The liquidity of banks in Jordan has witnessed a considerable improvement in recent years. According to the CBJ, local currency deposits at licensed banks grew by 19% between 2010 and 2013, rising from JD17.6bn ($24.8bn) in 2010 to JD21bn ($29.5bn) in 2013, and climbing a further 14% in 2014 to reach JD24bn ($33.8bn). This liquidity has increasingly been channelled into public securities, however, with Bank Audi reporting a 5.3% increase in claims to the public sector in 2014, representing almost one-quarter of total bank assets.

While the sector’s reliance on foreign funding is limited, high exposure to the public sector links Jordan’s lenders to the kingdom’s sovereign credit rating, pegging their stability to sovereign risk and also increasing the country’s vulnerability to external shocks. However, the CBJ’s effective supervision means that the vast majority of regulatory capital is considered Tier 1, and the industry’s CAR and liquidity remain in comfortable territory.

The financial sector’s link to sovereign risk metrics could in fact offer benefits in terms of growth. In November 2014 Standard & Poor’s (S&P) revised its outlook from negative to stable, and affirmed Jordan’s long-term and short-term foreign and local currency sovereign credit ratings at “BB-/B”, a positive sign for the sector, and one that could see banks boost lending in 2015 as well as offer a shot in the arm to the kingdom’s capital markets.

Capital Markets 

Capital market development dates back nearly 85 years. The kingdom has been home to public shareholding companies since the early 1930s, while corporate bonds were issued beginning in the 1960s. The government launched the Amman Financial Market (AFM) in January 1978, with the AFM later playing the role of both stock exchange and regulatory body.

The securities market began a transition to its modern framework in the 1990s, with the passage of Securities Law No. 23 of 1997. This sought to separate regulatory functions from trading, restructure the market in line with international standards, create a legal framework for issuing new financial instruments, attract and protect investors, and set up a transparent and fair market. The law created three institutions to monitor and facilitate trading in the kingdom: the ASE, the Jordan Securities Commission (JSC) and the Securities Depository Centre (SDC).

The JSC supervises and develops the country’s capital markets by regulating issuance, disclosure and financial services activities, and by bringing these activities in line with international best practice. Among its core aims are to enhance investor protection and boost the contribution of capital markets to the country’s economic growth. The SDC operates as a financially and administratively independent body responsible for registration, deposit, transfer of ownership and safekeeping of securities, as well as clearance and settlement of securities transactions. To enhance the SDC’s operations, a central depository of authenticated shareholders was created in 1999 that holds and maintains registers of all shareholders of listed companies in electronic form.

The ASE, for its part, acts as Jordan’s sole stock exchange, with 236 listed companies and a market capitalisation of $25.46bn as of mid-2015. The exchange trades a wide range of securities such as stocks, bonds and rights issues, and although the majority of traded securities are stocks, the bond market offers Treasury bonds, Treasury bills, and public and private institution bonds.

ASE Classification

In line with structural changes rolled out in 2012, listings are organised under a three-tier system: first market, second market and third market. First-market companies are obliged to post positive earnings before tax for two consecutive years out of the last three, at a minimum rate of 5% of capital. New entrants to this tier must spend one year on the second market prior to upgrading. The total equity of first-market firms cannot be less than minimum paid-up capital levels of JD5m ($7m), with a free float of 10% or higher for any company with a paid-up capital of under JD50m ($70.4m). Second-tier companies must have spent at least a year on the third market, and their net shareholders’ equity must be no less than 50% of its paid-up capital, with a 5% minimum free float for companies with a paid-up capital of less than JD10m ($14.1m). If a firm fails to meet requirements for the first or second market, or fails to make full disclosure of financial results on time, it is placed in the third market.

Listings are further divided into three classifications: financial (banks, insurance and real estate), services (including health care, education, tourism, transport, technology, communication, media and utilities) and industrial (covering pharmaceuticals, chemicals, food and beverages, mining, tobacco, textiles, glass and ceramics, among other sectors).

Mixed Results 

Although the kingdom’s banking sector reported robust growth in 2014, an opposite trend in its equity markets contributed to a strong price decline on the ASE in 2014. During that year, the exchange reached the lowest market capitalisation it had seen in 10 years, amid ongoing regional vulnerability and expectations of slimmer after-tax profits. According to Bank Audi the ASE’s dividend yield declined y-o-y, while at the same time market valuation ratios among listed companies stand among the highest in the region, making Jordanian equities comparatively less attractive.

The fixed-income market, however, enjoyed a year of improved investor sentiment in 2014, bolstered by economic recovery, the kingdom’s strong reserve position, reduced external and fiscal imbalances, and the S&P credit rating upgrade. At the same time, it is possible that the sector will struggle to absorb the negative impact of external factors.

In the first half of 2015, the performance of the ASE’s general index remained broadly flat, starting the year at 2167 points and peaking in early February at 2236.8 before declining in the following months to reach 2127.6 at the beginning of July. In those six months some JD1.47bn ($2.07bn) worth of shares were traded, a volume that breaks down into 1.47bn shares, 513,149 transactions and an average daily traded value of JD12m ($16.9m).

Market Reforms

Work to reform the country’s capital markets has continued as the authorities take steps to modernise systems, increase transparency and bring the sector in line with international best practices. These measures should allow the ASE and SDC to better compete on the international stage, particularly in light of the rapid capital markets growth taking place in the Gulf region.

 

The JSC has an important role in these efforts. In 2013 the regulator reported issuing and amending a number of instructions to further bolster recovery in the sector. The most important of these, according to the commission’s 2013 annual report, was a new centralised risk system for dealers in securities instructions, which aims to reduce the risks faced by brokerage firms when financing customers’ purchases of securities. The JSC is also undertaking feasibility studies in order to examine the possibility of demutualising and eventually privatising the ASE, although this process will likely remain under development over the medium term. Officials have said that they hope to wait until economic conditions start to become more favourable.

In mid-June 2015, the Council of Ministers approved in principle the conversion of the ASE into a for-profit public shareholding company, following a committee study on the benefits of such a change. The ASE would at first be wholly owned by the state, and later launch an initial public offering, according to its CEO, Nader Azar. The next step is for the Legislation and Opinion Bureau to approve the necessary amendment to the securities law.

At a separate meeting in mid-June 2015, held on the country’s strategic plan for economic growth, King Abdullah II ibn Al Hussein and high-level officials discussed methods to boost the ASE’s performance, competitiveness and attractiveness to investors. Among other projects in the pipeline, Azar announced that the ASE will shortly launch a brand new version of its trading system, called UTP-Hybrid and developed by NYSE Euronext, as well as adopt new disclosure and surveillance systems.

SUKUK Issuance

Efforts to introduce new Islamic finance products to the ASE gained considerable momentum in 2014. In April the government passed new by-laws specifying the structure and transfer framework for Issuance of new sukuk (Islamic bonds), and in July the JSC introduced rules allowing both the public and private sectors to issue Sharia-compliant debt. Banks are now amending their own regulations to tap the market for Islamic products. JIB, the Jordanian unit of Bahrain’s Al Baraka Islamic Bank, amended its articles of association in December 2014, allowing it to issue and buy sukuk, as well as establish special purpose vehicles for sukuk transactions.

Although the kingdom’s Islamic finance sector is well established – the first Islamic bank opened in 1978 – development of Islamic finance products has been sluggish until recently. Takaful (Islamic insurance) comprises just 8% of local insurance premiums, according to a PwC report, and only one Sharia-compliant bond has been issued so far – Al Rahji Cement’s seven-year, JD85m ($119.6m) security, launched in 2011. With legislation and detailed regulations in place, the Islamic finance segment has the potential to bolster the ASE’s market capitalisation.

2015 Forecast

Sukuk issuance could receive new momentum in the near future. The CEO of Al Baraka announced in February 2015 that JIB should issue its first sukuk by the end of the year, a 10-year dinar-denominated instrument. Three other banks have also announced plans to issue sukuk in the kingdom.

Islamic products offer a significant new growth opportunity, both for the ASE and for increasingly liquid banks in the kingdom, with Adel Al Sharkas, deputy governor of the CBJ, announcing in January that authorities plan to issue between JD300m ($422.1m) and JD400m ($562.8m) of sukuks in a bid to tap excess liquidity in the Islamic banking sector, which stands at an estimated $2bn. In April 2015 Jordan chose the Islamic Corporation for the Development of the Private Sector (ICD), a unit of Saudi Arabia’s Islamic Development Bank, to support the kingdom’s inaugural sovereign sukuk issuance. Under the agreement, the ICD will provide transaction technical support for a dinar-denominated sukuk, which is expected to be issued by 2016. Although in recent years the ASE has not regained its former strength, the introduction of new Islamic finance products offers great potential for growth going forward, creating more optimism about the market’s prospects in the near term.

Insurance

Representing the smallest segment of Jordan’s financial services sector, the relatively untapped insurance market witnessed strong growth in 2014, despite challenges related to ongoing regulatory changes and instability elsewhere in the region. The industry recorded strong asset, profit and premium growth in 2014, and it holds significant potential for future expansion. There are 25 insurers operating in the kingdom, with three companies holding significant market share: the Arab Orient Insurance Company (AOIC), Jordan Insurance (JI) and the Middle East Insurance Company (MEIC), which held respective market shares of 17.6%, 9.7%, and 7.1% based on gross written premiums (GWPs), in 2014.

As part of austerity measures, the government began to dissolve its insurance regulator, the Insurance Commission of Jordan, in 2012, with plans to transfer responsibilities for market oversight to the Companies Control Department as well as the Ministry of Industry and Trade. AM Best reported in September 2014 that it is still too early to gauge whether this will have a notable impact on effective regulation, which stakeholders have highlighted as one of the most critical challenges facing the industry, particularly in regards to the tariffs set for motor third-party liability (see analysis).

Positive Results

Although Jordan’s insurance sector has been characterised by fragmentation, stiff competition and a challenging regulatory environment, it recorded strong results in 2014. According to a March 2015 report by the Middle East Insurance Review, the industry saw 30.5% growth in combined net profits in 2014, with gross profits rising to JD32.7m ($46m), up from JD22.7m ($31.9m) in 2013. This was driven by improved returns on underwriting and investments, as well as a fall in traffic accidents, with GWPs rising to JD537m ($755.6m) in 2014, up 6.5% on 2013. Total paid-up capital reached JD268.3m ($377.5m) at the end of 2014, compared to JD281.3m ($395.8m) a year earlier. A 2013 accumulated loss of JD12.5m ($17.6m) meanwhile turned to positive retained earnings of JD14.2m ($20m) in 2014.

The non-life segment accounts for the majority of GWPs in Jordan. According to the Jordan Insurance Federation (JOIF), general non-life premiums in 2014 stood at JD330.9m ($465.6m), while medical insurance premiums reached JD141.7m ($199.4m), with the two categories comprising 90% of total GWPs. Non-life premiums grew by 4.7% in 2014 over the previous year, fuelled by a 75.7% rise in credit insurance, a 12.4% growth in general accident insurance and a 11.2% expansion in medical insurance premiums. The life insurance segment recorded 11.9% growth in the same period to hit JD53.1m ($74.7m) in GWPs. Total industry assets grew by 5.6%, from JD797.7m ($1.12bn) in 2013 to JD842.5m ($1.19bn) in 2014.

Competition is declining in the wake of market exits, according to the Middle East Insurance Review, with three firms leaving the industry in 2013 and four ending motor third-party liability coverage in 2014 due to segment losses. With a moderate but positive growth forecast for 2015, and insurance securities on the ASE showing a 10.2% price rise in 2014 according to Bank Audi, the industry is set for further growth in 2015, despite regulatory challenges and uncertainty.

Outlook

The medium-term growth forecast for financial services in Jordan remains positive, despite external challenges and a decline in risk appetite. Buoyed by high levels of liquidity and a positive macroeconomic outlook, banks look set to increase lending in 2015, especially for SMEs, while ongoing capital market reforms could see market capitalisation improve significantly following the roll-out of new Islamic finance products. Although the insurance industry in the kingdom has faced challenges and operators have had difficulties competing in a saturated market, premiums and profits continue to rise and could yet see further improvements.

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The Report: Jordan 2015

Financial Services chapter from The Report: Jordan 2015

The Report: Jordan 2015

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