The emirate’s banks have always considered lending as a primary activity thanks to a prudent strategy that has discouraged them from chasing less-proven and riskier alternatives. This policy paid off during the global financial crisis, as there were scant direct exposures to the toxic derivatives that sank some of the world’s biggest lenders.

Lending market data since the crisis suggest that the emirate’s banking sector has retained its tight focus on lending. The lending market in Dubai looks on track for moderate growth in 2016. The underlying factors influencing the market have changed, due to regulatory measures designed to increase stability and external factors such as crude prices. However, the market’s basic characteristics remain the same: Dubai has become a regional centre for lending.

Year-On-Year Growth

In October 2015 loan growth was 7.7% year-on-year (y-o-y), compared to 10% y-o-y growth in the same month in 2014. According to the Central Bank of the UAE’s (CBU) “Annual Report 2014”, loans and advances increased by 10.1% as a whole. All of that growth took place in the final three quarters of the year, with the loan market contracting by 1% in the first quarter of 2014. The CBU analysis found that the drop in oil prices did more to change the demand profile than to reduce its overall size. Customers from oil-exporting countries suffered, but foreign business partners in India and China, in particular, benefitted from lower crude prices. Min Fang, senior executive officer of the Dubai branch of the Agricultural Bank of China, told OBG, “Investment figures from the UAE to China offer a lot of room for growth. We are curious to see if the UAE investor community will diversify its country portfolio away from its focus on the GCC, Egypt and India.”

These two countries account for 38.6% of exports and 11.5% of exports, respectively, for the UAE as a whole. In the domestic market, a process of deleveraging from the real estate sector is under way, in particular from projects in early stages. Lending to owners of completed properties rose 3% in 2014 to Dh195bn ($53bn), but credit extended to projects in construction dropped 8%, according to the CBU’s “Financial Stability Report 2014”.

The quality of the overall loan portfolio remained constant, with non-performing loans at about 8% in the first three quarters of 2014. The figure dropped to 7% in the final three months of the year, according to the CBU. The ratio was 7.3% as of the end of 2013, according to the IMF. One of the bigger influences on the overall level of non-performing loans in the system came when Emirates National Bank of Dubai (Emirates NBD) upgraded the status of the outstanding debt of Dubai World, a major government-related entity (GRE), from non-performing to performing.

Evolving Process

The public sector lending market is the largest in Dubai, as the various government departments and GREs are, as a group, the biggest customer to the banks. While that basic relationship is not expected to change, specifics within the overall system are evolving. The CBU’s introduction of rules on concentration risk prevent any bank from extending too much of its capital to one customer. This suite of new regulations does not apply formally until 2018, but informally it has left some lenders that are already exposed to the public sector looking to other markets for diversification.

One expected consequence of this would be less pressure on banks to meet financing needs, by encouraging GREs to sell sukuk (Islamic bonds), equity or explore other methods. For the banking system the benefit would be less concentration risk. For Dubai’s capital markets this was seen as a chance to add to their offerings, and as the IMF told the UAE in 2015, the goal of having more capital markets instruments is an important one to work toward. “Developing domestic debt markets would reduce the reliance on external funding and bank lending, helping banks comply with loan concentration limits,” according to the IMF’s 2015 Article IV consultation, which serves as an annual check-up on a country’s economy.

Market responses, however, have shown that bank lending remains a popular option. Typically, it has been the larger Dubai banks that have lent to GREs, but smaller lenders are now willing to step in and provide capital instead. “Transactions are spreading from the biggest banks to the next biggest,” said Anver Jalaldeen, senior vice-president and head of investment banking at Sharjah Islamic Bank. In one example in 2014, Dubai Parks and Resorts arranged $327m in sharia-compliant financing from a group of lenders that included Al Hilal Bank, Commercial Bank of Dubai, Noor Bank and Sharjah Islamic Bank. What is expected is that bank loans will continue to compete with sukuk to meet the financing needs of GREs.

Retail Lending 

Competition has been intense in this market, and several foreign players have decided to withdraw. Barclays Bank and Royal Bank of Scotland are two that have divested of consumer-oriented banking assets in recent years.

Competition is increasing further still as more local lenders size up this segment of the lending market, according to a summary in a rights-issue prospectus submitted in July 2015 by Abu Dhabi Islamic Bank (ADIB). “Increasing competition in this area is gradually eroding margins and encouraging a relaxation of lending criteria,” according to the prospectus. “As the market has been tested only to a limited extent under adverse conditions, it is difficult to predict the future likelihood of asset quality problems.”

Banks now have access to credit histories through Al Etihad Credit Bureau, and that could serve them well in managing risks. Banks in the retail market also compete with finance companies, some of which are owned by other financial institutions. These actors target mortgages and personal lending, according to the CBU. A new Emirates ID is to be implemented to modernise and streamline the credit check process. The new scheme, which has been up and running in a partial form since it was originally established by law in 2010, will eventually provide a unique identification to help foster credit information. Al Etihad Credit Bureau will be able to continuously monitor this data, producing reports and continuously upgrading the system, moving to analytics-driven credit reports.

SME Segment 

Dubai has long made it a priority to increase credit to small and medium-sized enterprises (SMEs). Lenders have reported increased interest in what has historically been a difficult market to lend to. “Banks are developing their expertise,” said Redmond Ramsdale, senior director of financial institutions ratings at Fitch Ratings Dubai. “They want to grow sustainably in that area and are building up their institutional knowledge.” In late 2015 worry was spreading about a correlation between SME exposure and concerns about loan repayment.

In a new initiative described as a “mini-insolvency law” by Abdul Aziz Al Ghurair, CEO of Mashreq Bank and chairman of the UAE Banks Federation, banks in the UAE announced in early 2016 that they will suspend legal action against SMEs struggling to repay their debts for up to three months to prevent a surge in defaults that may harm the economy. This initiative, which involves businesses working with lenders to restructure their loans, is intended to give some financial breathing space to SMEs, which contribute around 60% of UAE’s GDP.

Commodity traders in particular could be at risk in 2016. Shayne Nelson, CEO of Emirates NBD, told OBG a significant amount of the SME market amounts to “commodity related traders, who have bought goods into the warehouse at higher prices in US dollars, and then have to compete outside of that market against lower currencies and lower prices.” Nelson said that the banking industry should not avoid financing SMEs as they might exacerbate risk by suddenly starving the SME sector of capital. SME owners tend to look for private capital before going to the bank, said Alexandar Williams, director of business development at the Department of Economic Development.