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central bank of oman

Treading prudently

H E Hamood Sangour al Zadjali, executive president, CBO, shares his thoughts on the progress made by the banking industry in the sultanate, critical issues and future trends

The Central Bank of Oman (CBO) has raised the minimum capital requirement of new commercial banks from RO50mn to RO100mn and foreign banks from RO10mn to RO20mn. Is this an entry barrier for new banks or is it meant to bring in financial prudence?

CBO’s move to raise the minimum capital is a recognition of the realities of the market and its requirement. As the economy surges ahead, larger projects come up and economic units get bigger, banks will have to match size to avail of business opportunities and fine-tune shock absorbers to meet any eventuality. GDP and banking assets have been growing. CBO will have to make sure that capital, the bedrock of financial strength, corresponds to the increasing size, complexities and risks of the market. Additional cushion in time adds to confidence in the marketplace.

It is necessary that Omani banks measure up to peers elsewhere gradually so that they meet increasing competition, direct and tacit, as the market opens up. Increased capital and capacity facilitate larger reach and ability to improve technology, products and services – a must for survival nowadays.

External markets have recognised the potential of Omani economy and many foreign banks are interested in setting up branches in Oman. Interest is being evinced in setting up local banks too. CBO, while happy about these developments, has to ensure that ease of availability of investable funds must not lead to a plethora of run-of the-mill banks and eventual problems. It is important that there is orderly growth in the number and operation of banks, particularly because any setback, even if coming from lack of diligence on the part of one bank, should not reflect on others and the system as a whole. Thus, CBO’s move to raise the capital is a prudent response to the market developments and needs. Regulators have to move with the times and, many times, ahead.

The year 2006 saw the banking industry record some of its best aggregates. Net profits were up by 32 per cent to an all time high of RO162.9mn. The same was true for loans and deposits. What would you attribute this robust performance to?

The year 2006 was a particularly good one for the banking industry. Bank profitability is generally linked to economic growth and with GDP growth of 25 per cent and 16 per cent in the past two years, the profits of banks have also risen significantly. With strong economic growth, the country has benefited from large surpluses in fiscal and balance of payments positions and comfortable levels of foreign exchange reserves. This too has favourably impacted the banking industry.

Your Excellency has talked about introducing a risk-based supervisory framework by the end of 2007. With banks already under Basel II regu-lations, is there a need for such a framework?

The complexities and risk profile of the financial sector and the need to ensure efficient allocation of scarce supervisory resources have prompted the banking supervisors to seek alternative approaches to the standardised examinations and to move over to risk-based supervision (RBS). Under RBS, the effecti-veness of the risk management systems of banks in identifying, measuring, monitoring and mitigating risks are evaluated to assess the quality and adequacy of such systems and processes. Thereafter, supervisory efforts will be focused on a bank’s risk areas.

On the other hand, Basel II framework sets out details for adopting more risk-sensitive minimum capital requirements for banking organisations. The new framework reinforces these risk-sensitive requirements by laying out principles for banks to assess the adequacy of their capital and for supervisors to review such assessments to ensure that banks have adequate capital to support their risks. It also seeks to strengthen market discipline by enhancing transparency in financial reporting. A significant innovation of Basel II is the greater use of assessments of risk provided by banks’ internal systems as inputs to capital calculations. The framework promotes the adoption of stronger risk management practices. Both concepts rely on sound risk-management practices. Thus, adoption of RBS and Basel II are complementary and will help in ensuring financial stability.

CBO has expressed concern about high interest spreads at times. What are the threats posed by that and will CBO intervene if the spreads continue to rise?

Interest rate spread is defined as the difference between various weighted average rates of len-ding and deposits. The average interest rate spread between lending and deposits in local currency has narrowed over the years from 6.4 per cent in 2004 to 5.7 per cent in 2005 and further to 5.5 per cent in 2006. A similar trend was evident between total lending and total deposits with the spread falling from 5.1 per cent in 2004 to 4.6 per cent in 2005 and 4.4 per cent in 2006. The absolute spreads noted above will reduce further if the prize and lottery schemes are factored into the interest rate calculations. The narrowing trend of the spreads points to more efficiency in banking operations with more competition in the pricing of deposits and loans. Despite the narrowing of interest rate spreads, there is always room for more sensitive interest rate structure that responds to changes in policy rates of the central bank.

How do you see the banking industry in the sultanate shaping up in the years ahead?

The banking industry is changing world over, thanks to factors like globalisation, liberalisation, technological advancements, shift of economic powers and diffusion of increasing wealth. The industry in the region is prospe-ring due to the fillip given by increased oil prices, move of the governments to encourage diversification of economies, new large proj-ects, private enterprise etc.

With the opening up of the markets and increased wealth seeking new investment opportunities, there are bound to be new pla-yers and competition as customer expectations and awareness have also increased. These will bring in more products and services and technological excellence. Modes of delivery will become swift. Size and sophistication of banks will be larger, arising from organic growth and other developments.

Omani banks are shaping up well to the new environment. We expect them to forge new alliances to prosper and match the competition. Banks will become bigger and there will be more sophistication with Basel II requir-ements and emphasis on risk management in place. As there are new external players, our banks may look outward more.

The portfolio mix may change gradually. While fund-based assets will grow due to increased business and credit needs, there will be opportunities for fee-based income on a large scale. Disintermediation effect and popu-larity of the capital market will lead banks to focus more on investment banking and related activities. The change will be welcome since generally, Omani banks’ assets have had more credit concentration.

Banks’ technological platforms will improve due to market compulsions brought in by increased competition and the need for due diligence. In the wishlist of CBO will be deposit growth matching credit growth. While a positive trend is already visible, it will be desirable that domestic sources of funds of long-term nature are tapped by banks in the interest of self dependence and stability.

capital market authority

Investors first

H E Yahya al-Jabri, Executive President, CMA, speaks to Mayank Singh about corporate corporate governance, prospects of the banking sector and other macroeconomic issues

CMA has liberalised several rules regarding investments like doing away with the mandatory three-year waiting period before a company can float its IPO and granting permi-ssion to cross-list shares across bourses etc. Are these measures bringing in enhanced liquidity to the capital market?

Most stock markets in the world insist that a company has to be in business for at least three years before it can go public. Although this is good for protecting investors, taking into account the depth of our market and the need for enhancing liquidity, we have allowed new IPOs to be listed on the condition that they provide an underwriter. These IPOs have definitely contributed towards increasing the market’s liquidity, breadth and depth.

Foreign brokerages were given the right to operate in Oman in 2005 and CMA followed this up by allowing foreign companies to have majority stake in mutual funds. How have these new rules been received? Can one expect more foreign institutional participation in the future?

Since allowing 100 per cent foreign ownership in licensed companies, we have granted licence to Qatar-based Blade Financial Investments and Kuwait-based Middle East Brokerage. Another application by a Kuwaiti company is under process. We have also seen some restructuring of licensed companies such as United Securities and Gulf Investment Services that have brought in major foreign shareholders. We have also received application from an Indian company, Kotak, for opening a licensed branch here. After 70 per cent stake by foreigners in mutual funds was allowed, Oryx 2004 has increased its foreign ownership limit to that level. Two other funds with 70 per cent foreign ownership limits are Vision Emerging GCC Fund and Vision Emerging Oman Fund.

However, the actual investments by foreigners in these funds have not been much. The prospects for further foreign investments shall depend on the expected return on these funds, the confidence of foreign investors in the country’s regulatory framework and the marketing of these funds to foreign investors. For example, Vision Emerging GCC Fund, which was marketed widely in the GCC, has a high percentage of foreign investors.

While these measures are welcome, is CMA also taking steps to ensure that the rights of investors are protected?

Protecting the rights of investors is one of the major responsibilities of CMA. It is a standard procedure, which is considered before we start any project or issue any rules or regulations. This is also important from the viewpoint of maintaining a high level of investor confidence in the market.

There seems to be a growing acknowled-gement of the advanced regulatory regime of the sultanate. The International Organization of Securities Commissions (IOSCO) has selec-ted CMA to develop fixed debt instruments for Africa and the Middle East. CMA has tied up with the UAE based Hawkamah Institute to promote corporate governance. Is CMA now looking at playing a larger role in promoting good governance globally?

CMA has constantly strove to promote and encourage good corporate governance in all organisations in the sultanate since it introduced its Code of Corporate Governance in 2002 requiring all MSM listed companies to comply with it. Based on that, Oman gained a functional corporate governance infrastructure. Hawkamah – the Institute for Corporate Gover-nance and International Institute of Finance have rated the sultanate’s corporate governance rules as the best amongst the GCC states. CMA carries on its enforcement role hoping that the listed companies will endeavour to enhance the standards of corporate governance to keep abreast of the international standards.

There are a number of new banks interested in setting up operations in Oman. How do you see the banking industry developing in the sultanate?

The Omani banking industry has grown at the same pace as the economy. Preliminary figures indicate that nominal GDP grew by 17 per cent in 2006 as against 24 per cent in 2005 to reach RO13.3bn. Reflecting the healthy macroeconomic conditions in the sultanate, all Omani banks exhibited a healthy performance. Stat-istics show that the increase in the profit of the banking sector between 2005 and 2006 was 19.47 per cent. The growth was the incentive to establish new commercial banks like Bank Sohar and has attracted foreign banks such as Bank of Beirut, Qatar National Bank and the Gulf Merchant Group. As a result, the industry has seen the introduction of a number of modern services benefiting customers.

CMA is also the regulator for insurance companies. How has the sector developed in Oman and what are its prospects?

The insurance sector in Oman continues to grow in terms of premium income, total assets, investments and capital. Total gross premium income for the year 2006 is about RO124mn compared to RO117mn in 2005 and RO102mn in 2004. With the rapid growth of Oman’s GDP, expansion of oil, gas and petrochemical sectors, development of tourism and a surge in housing, infrastructure and industrial proj-ects, the prospect of continuous growth of the insurance sector is bright. At present there are ten national and seven foreign insurance companies operating in Oman. Yet, the insurance penetration and density here are lower than the global average.

Why are economies around the world paying more attention to the securities market? Are the markets becoming larger than life?

Stock markets play a vital role in any economy. One, they create savings which can be channelised into development projects within an economy. Two, they are considered as a means of transferring money from lenders – in our case investors – to borrowers (companies and governments) and for promoting economic development. Globally, they facilitate the proc-ess of transferring capital across borders.

Moreover, the primary objective of the stock market is to enable investors to place their savings and gain a return from them. For companies and governments, on the other hand, stock markets are an easy and low cost source of raising money. However, the stock market by itself cannot be seen as a tool for boosting a country's economy. We believe that making all economic instruments work in harmony is the only way to achieve stability and economic prosperity.

What are the significant trends at work in Oman’s economy? How do you see them shaping the economy?

Since 1998 when the Royal Decree No. 80/98 promulgating the Capital Market Law was issued, the government of Oman has implemented significant reforms to foster domestic capital market development. During the last eight years, the capital market has witnessed significant growth. One way of measuring the participation of securities market in the national economy is to see the ratio of market capitalisation to GDP. This has grown from 25.5 per cent in 2000 to 42 per cent in 2005.

The general index of Muscat Securities Market (MSM30) reflects the market performance development supported by growth in market capitalisation and performance of lis-ted companies. The average increase of MSM30 index for the past eight years was 112.4 per cent helping the MSM30 reach 5581 points in December 2006 compared to 2284.6 points in December 1998. All these reflect gradual development of the sector and indicate the future trends of the capital market in Oman.