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Recent Developments in South African Banking

by internationalbanker

By Cary Springfield – cary.springfield@internationalbanker.com

In recent years, the reputation of South Africa’s banking industry has blossomed remarkably. It has become a well-regulated system that has seen large foreign players consistenty increase their presence within the country, while many have acquired stakes in major South African banks. By early 2014, the country’s banking sector was ranked an astonishing third out of 148 countries by the World Economic Forum’s Global Competitiveness Report, and by July 2014, the sector was comprised of 17 registered banks, 2 mutual banks, 14 local branches of foreign banks, 2 cooperative banks and 43 foreign banks with approved local representative offices. From a regional standpoint, South Africa leads the Sub-Saharan African pack in relation to a wide range of metrics, including the overall size and scope of its banking industry. According to South African Reserve Bank (SARB) data, total banking-sector assets recorded an average annual growth rate of 7.1 percent during 2011-14, reaching US$361 billion by December 2014, while Bloomberg’s analysis recently revealed that South Africa’s banks have outperformed the FTSE/JSE All Share Index over the past five years, seeing a return of 120 percent compared to 97 percent. Over the last 18 months, however, the strength of this banking system has been thoroughly put to the test.

2014-15: A challenging environment for banks

2014 transpired as a year in which South Africa’s banking industry showed the depth of its resilience in the face of increasingly challenging operating conditions. The year was frequently characterised by currency volatility, with the rand proving to be highly sensitive to global issues such as US monetary-policy expectations, as well as weaker domestic-growth projections, dramatic commodity-price volatility and increasing fiscal and trade deficits within South Africa. By year-end, the currency had lost 9 percent of its value against the US dollar. In addition, the business environment within South Africa created much uncertainty, with labour market issues triggering significant structural problems within specific industries. Against the backdrop of such challenges, however, South Africa’s leading banks performed solidly, both last year and into much of 2015.

The headline figures for South African banking in 2014 proved to be robust, as accounted for in PricewaterhouseCooper’s (PwC’s) comprehensive study “Major Banks Analysis-South Africa”, published in March 2015. According to the research, combined headline earnings for South Africa’s “big four” lenders—Standard Bank, Barclays (Absa), FirstRand and Nedbank, which account for roughly 85 percent of South African banking market share—were recorded as being 8.5 percent higher during 2014, with total operating income and operating expenses both increasing by 10 percent and 6.8 percent respectively. The major contributors to such healthy earnings growth were considered strong, with net-interest income growing by 13.2 percent, non-interest revenue growth increasing by 6.6 percent and stable impairment charges marginally rising by 0.4 percent in comparison to the second half of 2013. Credit growth was also solid throughout last year, with loans and advances expanding during the second half of 2014 by 5.1 percent compared to the first half of the year, and by 6.1 percent compared to 2013’s latter half. Mortgage loans, however, remained fairly constant throughout 2014, which was expected given the moderate tightening in monetary policy that occurred during the year.

Furthermore, 2015 thus far has seen conditions deteriorate further within South Africa, and while the country’s leading banks have again remained resilient in the face of this decline, they are coming increasingly under pressure, as is the entire banking system. Nevertheless, based principally on a strong showing in corporate and investment banking, South Africa’s biggest banks for the first half of the year posted the best headline earnings figures since the 2008 global financial crisis. According to recent analysis by EY financial-services sector leader Emilio Pera, first-half earnings from the two aforementioned divisions rose by 23.4 percent to R12.1 billion at South Africa’s big four, while a highly respectable 11.5-percent growth was experienced by the four lenders’ retail and business banking divisions. Overall, the four leading lenders posted a combined headline earnings total of R32.8 billion, a comfortable 17.7 percent higher than during the first half of 2014. PwC Africa’s banking and capital markets leader Johannes Grosskopf attributed such a strong performance by the big four to their revenue pools, which remain internationally well-diversified and resilient to the increasingly challenging operating conditions. Standard Bank’s corporate and investment-banking division has led the way during the first half, even outperforming FirstRand, which has typically been the investor’s favourite in recent years, to post a 21.9-percent expansion in loans and advances to customers. Standard Bank’s headline earnings also grew by a highly impressive 26.9 percent, easily outperforming the 17.1-percent average of the South African banking industry.

On the downside, the banks’ operating expenses rose by 9 percent and operating income increased by 8 percent, leading to a deterioration in the combined cost-to-income ratio to 54.9 percent, according to PwC’s calculations, marginally higher than the 54.7 percent recorded last year. Cost containment continues to be a pressing issue for South African banking, with the cost of equity for local banks being recorded at 13.4 percent, considerably higher than the 10.9-percent average recorded by global banks.

Ongoing conditions expected to worsen for banks

South Africa’s economy has been under strain this year to date; in spite of Gross Domestic Product (GDP) increasing during the second quarter by 1.2 percent from the same quarter of the previous year, it fell by a sizeable 1.3 percent from the first quarter of 2015.

South Africa’s GDP growth rate, quarter-on-quarter (Source: Statistics South Africa | Trading Economics)

South Africa’s GDP growth rate, quarter-on-quarter (Source: Statistics South Africa | Trading Economics)

More concerning is the fact that economic conditions are expected to worsen before they improve, which is causing many to predict that South Africa’s banking industry will struggle to sustain its recent performance going forward. The expected and imminent hike in interest rates by the US Federal Reserve is likely to drain funds away from emerging markets, including South Africa, and back into the US and other developed nations. This impending factor, along with the ongoing depression in commodity prices and the prominent contraction in demand in China—a pivotal trading partner for South Africa—has already started to make the operating environment extremely tough for South Africa’s banks. The mining sector in particular has been severely impacted, although this has been somewhat mitigated by the continued depreciation of the rand; gold, for example, has become highly attractive for the export market on a rand per kilogram basis. Nevertheless, commodity valuations have declined significantly—South Africa is the world’s biggest platinum producer and has seen the precious metal slump by about 20 percent this year. Moreover, commodity prices are expected to remain subdued over the coming 12 months, which will undoubtedly continue to shave a substantial amount from South African economic growth figures for this year and next, as well as accelerate the rate of non-performing corporate loans among mining and commodity companies.

The big four have already begun to batten down the hatches in anticipation of further South African headwinds, easing corporate-lending rates and retreating from riskier, higher-margin business, especially unsecured loan provision. Such action has mainly been in response to the sharp drop in net-interest margins that the four lenders have experienced, from 4.61 percent to 4.38 percent between the second half of 2014 and the first half of 2015. Much of this contraction has been due to new Basel III regulations, which require global banks to hold more low-interest-yielding assets (such as government bonds), thus diminishing lenders’ overall interest income. Major refinancing deals, such as June’s 40-percent extension of Pan African Resources’ revolving credit facility to R1.1 billion by Nedbank, Barclays and FirstRand, have resulted in the reduction of the agreed interest rate and a cut in banking fees. This has prompted other lenders to follow suit and drop their rates, given the highly competitive nature of the South African market. The increasing need to reprice loans to South African corporates, therefore, has become indicative of the declining margins facing lenders.

FirstRand recently announced that it is tightening its lending criteria to counter rising bad-debt levels resulting from the economic slowdown. Non-performing loans have started to tick up on the retail side, according to the bank’s new CEO, Johan Burger, while the commodity sectors on the corporate side, such as mining, metals, oil and gas, are expected to generate further bad debt. FirstRand’s full-year profit climbed 17 percent to R21.6 billion in the 12 months through June, with Mr. Burger attributing much of the bank’s stellar results to growth in its retail unit First National Bank, which consistently focused on cross-selling products from non-retail units to retail clients, lending to its core customer base, migrating clients on to electronic platforms to save on costs, and fostering the transaction opportunities between clients and the bank.

The crucial importance of the African continent

Given the challenges facing the banking sector within the country, South Africa’s major lenders have also responded by increasingly looking beyond domestic borders for growth opportunities. Indeed, strong first-half performance in corporate and investment-banking earnings by the big four was significantly driven by growth in other African markets, such as Nigeria, Kenya and Ghana. 25 percent of Standard Bank’s profits was earned outside South Africa, followed by 17.6 percent for Barclays, 8.1 percent for FirstRand and 6.5 percent for Nedbank, whose stake in pan-African group Ecobank saw its African operations outside of South Africa grow by a staggering 338 percent.

Standard Bank has recently cut back its UK operations in favour of expansion in Africa. It now operates in 18 different African countries, with a well-diversified portolio, according to Mr. Pera. Similarly, FirstRand hopes to expand its insurance business in Kenya and grow its retail presence in Namibia. The bank also plans to invest R2.8 billion in its existing African operations, while an additional R5.2 billion has been planned for smaller acquisitions across Africa, according to Mr. Burger. Nedbank has also stated its intent to build a presence through acquisition in East Africa’s markets.

Unsecured credit provision from smaller lenders remains a challenge

Outside the big four, however, the picture seems less rosy. Johannesburg’s benchmark FTSE/JSE Africa Banks Index grew by a mere 1 percent during the first half of 2015, illustrating the pressure that smaller lenders have experienced under weaker economic conditions. Indeed, the banking sector in 2014 faced the collapse of one of its stalwart Tier 2 lenders, African Bank, which had been providing loans that were not backed by assets for several years, despite receiving several warnings from regulators, and forcing the government to use external administrators to supervise its restructuring. The collapse only added to the strain faced by the South African economy, and continues to underline the fact that such lending practices have a high chance of leading to failure. It was also a blight on the reputation of South Africa’s banking system; indeed, the local-currency deposit and senior unsecured debt ratings of the big four were downgraded soon after by Moody’s, with the ratings agency specifically citing the “lower likelihood of systemic support from South African authorities to fully protect creditors in the event of need” as being the main reason for the action taken.

Paradoxically, however, one of the best overall banking performers in 2015 has been Capitec Bank Holdings, another lender that extensively provides uncollateralised loans to low-income earners. During the year, Capitec has seen its shares rise by more than 40 percent, is the best-performer on the FTSE/JSE Africa Banks Index, and reported a 25-percent increase in first-half profit, following on from the 26-percent increase in full-year profit to February. Much of the lender’s recent growth has been credited to an expansion in its customer base, and in particular, customers with higher salaries, which has helped to boost Capitec’s income from transaction fees. However, despite opening 23 new branches and more than 200 ATMs during the year, Capitec’s main source of business generation remains unsecured-credit provision—evidently a risky strategy given African Bank’s demise. Indeed, given that African Bank was Capitec’s main competitor, its collapse is thought to have helped Capitec in servicing those customers seeking unsecured credit. Given the low long-term appetite for such credit growth in South Africa, however, it is thought that Capitec’s long-term growth is unsustainable, and that its share price is likely to reverse course at some point during the coming months. In the interim, however, it appears that the mid-sized lender’s efforts to attract depositors through offering lower bank fees is earning the bank sizeable market share from more established lenders.


According to research from South Africa-based Avior Capital Markets, the biggest concern for banks is if declining economic conditions lead to a major dip in employment levels. Were this to occur, credit losses and write-offs are likely to result, leading to a fall in banking stocks. A small rise in interest rates is also expected to be manageable and possibly even desirable as banks earn more interest from customers, but a hike beyond 100 basis points is likely to trigger significant defaults on mortgage repayments.

However, it should be noted that South Africa’s big four continue to outperform their global peers across numerous parameters. For example, the lenders earnt a return on equity (ROE) of 18.4 percent, exceedingly higher than the 10.3-percent global average; net-interest margins, meanwhile, average 4.4 percent, almost double the 2.3-percent global figure. Moody’s expects South Africa to avoid recession and recently underlined this prediction by affirming the country’s sovereign-bond rating at Baa2, but has also estimated economic growth to increase by only 1.7 percent in 2015 and 1.9 percent in 2016, citing low commodity prices, drought, electricity shortages, weak global growth, Chinese economic uncertainty and a tightening of US monetary policy as the expected contributory factors.

Given the sheer weight of such issues and their potential to stymie bank-earnings growth, it seems increasingly vital that South Africa’s banks continue to expand their horizons elsewhere on the continent for growth opportunities. While retail growth remains lacklustre, the pursuit of international opportunity on the corporate side appears to be the most sensible and sustainable option over the long-term.


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