OREANDA-NEWS. January 19, 2016. Fitch Ratings says in a new report that the sector outlook for banks in Sub-Saharan Africa (SSA) is negative for 2016 as sovereign worries raise bank risk.

Falling commodity prices, faltering GDP growth, weaker currencies, greater political risks and external factors are to varying degrees putting increasing pressure on SSA sovereigns and therefore bank risk profiles. As a result, of strong and multiple challenges, we believe SSA banks are likely to face slower growth, weaker earnings, worsening asset quality and tighter liquidity and capitalisation.

This is, however, unlikely to lead to rating downgrades given the current level of bank ratings in the region, which are mostly in the 'B' range (only banks in South Africa and Mauritius have investment-grade ratings). Ratings at this level in Fitch's view capture many of the risks we highlight. As headwinds are unlikely to ease, we believe banks will come under further stress in 2016, but a sector-wide bank crisis in the region is unlikely.

Against this backdrop of weaker operating conditions, asset quality has started to deteriorate. We believe NPLs will rise across the region in 2016 owing to slower GDP growth and a weaker commodity sector, particularly in oil and mining. The region is also in a higher interest rate cycle - this will initially lead to higher retail and SME NPLs. Further pressure on asset quality comes from depreciating currencies, which are negative for the real economy as the region is highly import-dependent. We are already seeing higher NPLs mainly in the trading and manufacturing segments, which are typically some of the banks' largest industry concentrations.

Bank capital ratios are generally high due to additional regulatory requirements (due to regulators adopting Basel II or in the case of South Africa Basel III) which commenced before the current turmoil. However, in the context of increasing bank risk, capitalisation is viewed to be no more than adequate, especially if sovereign creditworthiness deteriorates further and at a faster rate. Lower retained earnings and currency devaluations are eroding regulatory capital ratios.

Banks are primarily customer deposit-funded, and deposit growth will continue given the under-banked nature of most countries. Foreign-currency liquidity is, however, scarce. Refinancing risk on USD borrowing could be challenging but is expected to be moderate in 2016 - it will probably be more of an issue in 2017 and 2018. Local-currency liquidity is satisfactory, but sensitive to monetary policy actions. Cost of funding will continue to increase.

Generally, a two-notch downgrade of the sovereign (one-notch in South Africa) would lead to a downgrade of banks' Long-term Issuer Default Rating (IDRs). Viability Ratings are sensitive to a material increase in NPLs, and therefore weakening capital. As ratings are generally low, downgrade potential in the short-term is limited. There is little upside potential at present.

The report, 2016 Outlook: Sub-Saharan Africa Banks, is available on www.fitchratings.com or by clicking the link above.