This article first appeared in The Edge Malaysia Weekly on October 26, 2020 - November 1, 2020

MALAYSIAN lenders are expected to see an elevated level of non-performing loans (NPL) over the next two years as the impact from various repayment assistance programmes to borrowers affected by the Covid-19 pandemic starts to fade.

Nevertheless, their NPL situation will not be as bad as some of their regional peers’, says Moody’s Investors Service.

“We project Malaysian banks’ non-performing loan ratio will rise to 4% in 2022 from 2% in 2019, while their credit costs will increase to 0.7% from 0.3% over the same period,” Li Tengfu, a Moody’s analyst who tracks financial institution groups, tells The Edge.

He says compared with neighbouring countries such as Indonesia, Thailand and Vietnam, the absolute level of bad loans in Malaysia will remain lower at the end of 2022, based on Moody’s estimates.

“The milder impact on asset quality reflects Malaysian banks’ track record of strong underwriting practices, as seen in the decline of the industry’s NPL ratio over the past decade.

“Most importantly, we estimate that Malaysian banks’ capital reserves — a key indicator of the financial system’s health — will remain largely stable throughout the same period, which includes our assumptions of slower loan growth and reductions in cash dividends,” Li adds.

He explains that Moody’s based its analysis and projections on the cumulative performance of banks at the end of 2022, rather than taking a yearly snapshot, given the delayed recognition of bad loans due to coronavirus-related measures and the greater uncertainty surrounding loan provisions as per the MFRS 9 accounting standard.

In a report on Oct 6, Moody’s said it expects problem loans to double on average across the 14 economies of Asia-Pacific by 2022, with banks in India and Thailand to see the largest increases owing to the severity of the economic shocks and the historically poor performance of certain loan types, such as small and medium enterprise loans in Thailand.

“We expect asset quality to deteriorate significantly [in Asia-Pacific] as economic conditions remain weak, while profitability will take a hit from rising credit costs and declining margins,” it says. Rising credit costs and a 5% to 10% drop in pre-provision income, amid an environment of falling interest rates, will drive a significant deterioration in profitability in the coming years, it adds.

Nevertheless, despite substantial risks, it believes their impact on capital will be limited and the banks’ creditworthiness “should remain largely intact”.

NPL growth is expected to be the mildest in South Korea, Japan and Vietnam (see chart). According to Moody’s, this is partly because economic damage has been less significant in the case of South Korea and Vietnam, whereas traditionally strong underwriting practices are paying off for Japanese banks in this downturn.

Separately, S&P Global Ratings expects that banks in China, South Korea, Singapore and Hong Kong may be among the first in Asia-Pacific to recover to pre-Covid-19 2019 financial strength — but not until the end of 2022.

“We assume it will take this long to work through asset quality problems even in the case of China, the only major economy globally for which we assume positive gross domestic product growth in 2020, and where Covid-19 infections are low. For the Chinese banking system, we estimate that credit losses will increase by about US$370 billion to the end of 2021 because of Covid-19,” it says in an Oct 19 report.

Generally, it expects that banks in this region, as in other regions, will have a slow and uncertain path to recovery to pre-Covid-19 levels.

In Malaysia, the banking system’s gross impaired loan (GIL) ratio stood at 1.4% as at end-August. This was an improvement from the year’s high of 1.59% as at end-March, as the blanket six-month loan repayment moratorium was still in place.

The ratio is expected to remain benign for the rest of the year given the various repayment assistance programmes that kicked in after the blanket moratorium ended on Sept 30. Bank Negara Malaysia assured borrowers last Monday that those who declined repayment assistance previously would still be able to apply for targeted assistance “throughout 2020 and into 2021” if their financial circumstances had changed. It said applications for repayment assistance at any time before June 30, 2021 would not appear on a borrower’s Central Credit Reference Information System, or CCRIS, records.

“We expect a slight pickup in the GIL ratio after September 2020 but it should remain generally benign until end-2020 due to the targeted loan moratorium. However, banks are expected to continue front-loading provisions where we are forecasting a tripling in system net credit cost in 2020 and for it to remain elevated in 2021,” UOB Kay Hian Research says in an Oct 1 report on the sector.

Bank Negara Malaysia’s recent Financial Stability Review report for 1H2020 said that under a stress test, the banking system’s GIL ratio is projected to rise from 1.5% as at end-2019 to 3.1% in 2020, before inching up further to 4.1% in 2021, driven mainly by higher business impairment.

Household loan impairments are expected to double by end-2021, accelerating from 2H2021 given the extended repayment assistance programmes that will remain in place through 1Q2021 for individuals who have experienced a loss in income.

According to the central bank, 63% of defaults are expected to arise from firms in the services sector, while 33% of defaults are from large corporates and listed firms with weak financials.

“Based on Bank Negara’s simulation, 60% of the defaults would occur in 2H2021, making up 71% of new impaired debt. Sixty-six per cent of borrowers who default would be those earning less than RM3,000 per month, but in value terms, 52% of impaired debt would stem from borrowers earning RM5,000 to RM10,000 a month,” observes Maybank Investment Bank Research.

As at Oct 9, more than 640,000 applications for repayment assistance had been received, with an approval rate of around 98%. Of those approved, 40% were granted an extension of the moratorium while 60% received a reduction in instalment.

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