As government spending on infrastructure projects ramps up, Omani lenders are poised to expand their loan books in 2024, following a year of stability that saw most banking metrics improve gradually, in line with the economy’s steady recovery from the pandemic.

Banks are looking to sink their teeth into fresh opportunities emerging from Vision 2040 diversification projects. In doing so, they will benefit from their relatively captive market for corporate credit, since – unlike in other regional states with deeper capital markets – Omani companies have limited access to alternative funding sources beyond the banking sector.

Not that banks in Muscat have it easy. This year, profits have been subdued by weaker net interest margins. Lending was also modest in the first three quarters of 2023, at 4.4 per cent, according to Fitch Ratings, which is essentially the same level as in 2022.

However, the ratings agency sees large government-backed projects, particularly infrastructure schemes, leading credit growth to accelerate to 6-7 per cent in 2024.

Jamal el-Mellali, a director at Fitch Ratings, says one aspect unique to Oman is that the government-related entities (GREs) – to which banks are highly exposed – have made some large early repayments.

“They have taken advantage of the high oil prices to pay down debt. And we have seen the same trend for the sovereign itself,” he says.

According to Fitch, Omani banks benefit very little from higher interest rates as local-currency long-term loans do not reprice with changes in the Central Bank of Oman’s (CBO’s) benchmark rate and competitive pressures limit banks’ repricing abilities.

“One aspect that is unique in the GCC is that Omani banks do not benefit to a great extent from higher interest rates,” says El-Mellali.

“That is because long-term lending in Omani rials, which represent the bulk of the lending, is not driven by the benchmark rate set by the CBO. So even though the CBO has increased rates by a cumulative 550 basis points since March 2022, the average net interest margin for the banks has only increased by 20 bps.”

This striking figure reflects Oman’s highly competitive banking sector, where banks lend to the same large corporate clients, mostly GREs.

Asset quality and impairment

Asset quality is not a major challenge in the sultanate. Loan impairment charges will continue to rise in line with banks’ conservative provisioning policies, but this should be balanced by stronger non-interest income and cost discipline, notes Fitch. Loan quality should continue to recover in 2024, reflecting more supportive macroeconomic conditions.

“Asset quality has been fairly stable again, compared with last year, with an impairment loss ratio for the sector of 4.4 per cent in the first nine months of 2023,” says El-Mellali.

“That’s unchanged compared with 2022. And this is because we are seeing a slow recovery from the sectors that were impacted by the pandemic, namely real estate and hospitality, and the construction sector.”

Lower provisions should also help banks with profit generation. However, the expectation is that any improvement to net income in 2024 will be modest because banks do not see much benefit from higher rates. On top of that, interest rates may have peaked.

“Our base case is that the Fed will start cutting rates in the second half of next year, and because the Omani rial is pegged to the dollar, the CBO will certainly follow any changes in the Fed funds rate. So from that front, we don’t see any improvement in banks’ net interest margins in 2024,” says El-Mellali.

Islamic banking and consolidation

One area of Oman’s banking system that has seen rapid growth in recent years is the Islamic sector. The latest CBO figures show that the total assets of Islamic banks and banks with Islamic windows increased by 12.7 per cent to RO7.2bn ($18.7bn), constituting about 17.6 per cent of the banking system’s assets at the end of September 2023.

Islamic banking entities’ financing of RO5.9bn ($15.3bn) at the end of September 2023 represents healthy growth of 11.6 per cent in year-on-year terms. 

Although still small relative to the conventional sector, the Islamic sector in Oman is likely to continue growing, following reforms such as the introduction in 2022 of the wakala money market instrument. This allows Islamic lenders to place remunerative deposits with the Central Bank for up to a maximum of three months.

“We will continue to see a very high growth in the next year in the Islamic banking segment, especially since banks have ramped up the distribution capabilities of their Islamic windows,” says El-Mellali.

Although the past year has seen some merger and acquisition (M&A) activity, with HSBC Bank Oman gaining approval in August for its merger with Sohar International Bank – and an abortive attempt from the country’s second-biggest lender, Bank Dhofar, for Ahli Bank – the scope for further consolidation may be limited.

With less than 20 banks, Oman’s banking sector is already more concentrated than others. As Fitch notes, the three largest banks already control almost 50 per cent of total assets, which is considered a high level. That means the Central Bank has to be more careful when approving M&A deals.

Rather than inorganic growth, Omani lenders may be more inclined to grow by organic means. And with a host of new projects gaining traction, the next year should provide some new avenues for productive lending.