The banking sector wrapped up 2023 with a slight decline in the capital adequacy ratio (CAR), with the metric hitting 18.6%, compared to the 19% recorded a year earlier, according to the financial soundness indicators report (pdf) released by the Central Bank of Egypt (CBE). Banks’ CAR remains well above the central bank’s minimum threshold of 12.5%.

Egyptian banks are well-positioned to absorb financial shocks, banking expert and Alraya Consulting CEOHany Abou El Fotouh told Enterprise. The marginal CAR drop doesn’t pose a risk to the banks, and it’s expected to recoup as economic recovery accelerates, Abou El Fotouh added.

What is CAR? The capital adequacy ratio — also known as capital to risk-weighted assets ratio — is a metric that measures a bank’s ability to pay liabilities (bank-speak to give depositors back their money), absorb potential losses (from, say, bad debts), and respond to credit risks.

When does CAR drop? The CAR declines as risk-weighted assets grow, Abou El Fotouh explained, adding that the latter could be a result of increased credit and operational risks, investment in securities, and financial losses as well as the deterioration of asset quality. Moreover, a weaker EGP can pressure the CAR due to its impact on the value of banks’ assets and liabilities, he said.

The float may shake things up: Some banks may have to increase their capital to meet the CBE’s capital requirements, EG Bank board member Mohamed Abdel Aal told Enterprise on the day the central bank floated the EGP. “It’s hard to tell where the price of the EGP will stabilize, but with sufficient FX liquidity in local banks to meet demand, there won’t be a big impact on banks’ capital adequacy ratio,” he added. If that doesn’t happen, then some banks will probably have to increase their capital to meet requirements, Abdel Aal said.

Remember: Under the 2020 Banking Act, local banks were mandated to increase their capital to a minimum of EGP 5 bn, while foreign banks operating in Egypt were required to raise their capital to USD 150 mn.

Sound smart: The float could pressure both banks’ ability to disburse FX loans and customers’ ability to pay them back. A weaker EGP could hurt banks’ asset quality and mount pressure on their non-performing loans, especially FX-denominated loans, as it would cost borrowers more in local currency to pay them back. On the other hand, currency depreciation could also hamper banks’ FX exposure, especially amid a low rate of FX assets, which would cost banks more in EGP to disburse FX-denominated loans.

Other metrics from the report:

  • The ratio of non-performing loans to total loans shrank to 3% in December 2023, down from 3.4% a year earlier, reinforcing the conventional wisdom that borrowers tried hard last year to keep current with their dues so as to avoid losing access to finance or assets;
  • The ratio of loan provisions to non-performing loans ratio slid to 89% from 92%, meaning banks set aside less money to cover potential bad assets, reflecting the improved NPL ratio;
  • The loans to deposits ratio jumped to 54%, up from 48%, as banks put more of their clients deposits to work by lending them out to other clients;
  • The ratio of private sector loans to customer loans dropped to 52% from 56%, reflecting the banks’ efforts to attract more customers in the retail banking segment over the past year.
  • The net interest margin of banks dropped to 3.8% from 4.2% despite the higher interest rate environment, likely reflecting a drop in corporate borrowing.
  • The return on average equity rose to 18% from 16% while the return on average assets was flat. The two metrics talk to how efficiently banks use their assets (loans to clients) to generate returns.
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