Ramping up: Solid fundamentals underpin expansion

Despite the lingering effects of the 2008-09 international economic downturn and the more recent political unrest in the region, Ras Al Khaimah’s financial services sector is expected to grow substantially, fuelled by steady expansion in retail banking, Islamic financial services (IFS) and the insurance segment, among other areas. Local banks and other financial institutions – which have seen revenues rise in recent years as a result of cautious lending practices and careful state oversight – are set to play a major role in the ongoing development of key segments of the economy in the years to come.

Similarly, the steady expansion of RAK’s economy as a whole bodes well for the financial services industry. Indeed, RAK’s booming manufacturing sector, which has been a cornerstone of the emirate’s developing economy since the early 2000s, represents a major source of business for local banks.

The emirate’s strengths include a business-friendly regulatory environment, a diversified economy, a handful of multinational companies, and a large number of small and medium-sized enterprises (SMEs) from around the world. Taking into account these assets, in addition to the thriving local economy, the banking industry’s future looks bright.

CHALLENGES AHEAD: Positive forecasts aside, the sector faces a number of obstacles in the coming years. While many banks have resumed lending since 2008, the global recession prompted institutions around the world to make cutbacks. The local mortgage market has yet to recover to pre-2008 levels, which has had an overall negative impact on the real estate and construction sectors.

Similarly, many SMEs, which account for a substantial percentage of the economic activity in RAK, have had trouble sourcing financing in recent years (see analysis). Finally, despite efforts to build up corporate banking over in recent years, the retail segment continues to dominate at most banks, accounting for as much as 80-90% of total business.

OVERSIGHT: A variety of national and local authorities are involved in regulating the financial services sector. The Ministry of Finance (MoF), a federal institution, oversees the government’s finances and allocates federal funding for government ministries and other official entities. The MoF also plays a major role in the development of the national budget. The UAE central bank, meanwhile, oversees the country’s monetary policy, which includes ensuring the stability of the national currency, the dirham, as well as regulating the banking sector and other major components of the financial industry.

At the local level, RAK’s finances are overseen by the Finance Department, which was known as the Public Accounts Department when it was founded in 1966. Since the name change in 2003, the Finance Department has managed revenue and payments at the local level, including putting together the emirate’s annual budget and monitoring daily spending and transactions between local government departments and other official entities. The Investment and Development Office (IDO), meanwhile, administers the emirate’s long-term investment strategy.

Since it was set up in 2004, the IDO has played a central role in RAK’s economic expansion. In addition to identifying new investment opportunities within the emirate and working with foreign investors looking to set up shop in RAK, the office oversees the RAK Free Trade Zone (RAK FTZ) and the RAK Investment Authority (RAKIA), both of which are major economic contributors in their own right. Finally, the RAK Department of Economic Development (RAK DED) works closely with both the IDO and the Finance Department to help coordinate RAK’s long-term economic development.

REGULATION: RAK’s rising reputation as a competitive economic centre in the Gulf is the result of a series of government-led initiatives put in place over the past eight years. The emirate is currently home to a business-friendly financial regime, with liberal ownership and capital repatriation laws, especially in free trade zones operated by RAK FTZ and RAKIA. Additionally, many companies that set up shop in RAK benefit from heavily subsidised labour, land and energy costs.

At the same time, both the local and federal government have worked to shore up the financial services sector against potential future challenges. In late 2010, for example, the central bank released a number of new regulations related to loan classification and provisioning. Similarly, in late February 2011, the institution introduced new guidelines on personal lending, credit cards and automobile loans, which effectively limited the charges that banks are allowed to levy on loans and capped the amount that citizens are permitted to borrow.

In response to the new regulations, many local institutions – including the National Bank of RAK (RAKBANK), the largest bank in the emirate by a substantial margin – announced plans to diversify their product offerings, focusing on small businesses.

BY THE NUMBERS: RAK has posted average annual GDP growth of 17%, from $1.8bn in 2002 to $4.4bn in 2010, according to the most recent numbers from the RAK Chamber of Commerce. In December 2011, the global credit ratings agency Standard & Poor’s (S&P) forecast the emirate’s GDP per capita at $21,897 for the year, up from $20,580 the previous year. The agency expected the emirate to post a consolidated budget surplus of 6% of GDP in 2011, which represents a jump on the estimated 5.5% surplus in 2010. Additionally, RAK’s total debt was pegged at around 24.1% of GDP in 2011, down from 30% of GDP in 2010. According to S&P, it is well within the UAE’s financial capacity to cover this debt.

These numbers bode well for continued growth in the local financial services sector. According to the most recent numbers available from the RAK DED, the industry accounted for 5.9% of RAK’s GDP in 2009, which represents a slight drop from around 7% the previous year. This number is expected to have jumped since then, in line with broader economic growth in 2010 and 2011. Expansion among local financial institutions has kept up with current trends in the UAE. In 2009, the most recent year for which numbers are available, the financial services sector was responsible for 5.8% of the nation’s GDP.

STRONG FUNDAMENTALS: The steady expansion of RAK’s financial services sector in recent years is largely the result of the emirate’s strong economic performance since 2003. A series of ambitious government initiatives put in place since the turn of the century, primarily by the government of Sheikh Saud bin Saqr Al Qasimi, RAK’s current ruler, have turned the emirate into one of the most competitive economic centres in the Gulf. In particular, the creation of RAK FTZ in May 2000 and RAKIA in 2005 has had a positive transformative effect.

RAK FTZ is currently home to more than 5000 active companies, the majority of which are SMEs carrying out businesses in light manufacturing, trading and consulting. In 2011, the free trade zone registered 2033 new companies to carry out business in RAK, compared to 1740 firms the previous year.

RAKIA, which has more than 3000 firms, registered around 800 companies in the first half of 2011, which represents a jump of 31% compared to the same period in 2010. In addition to overseeing two industrial parks, which are home to a handful of RAK’s largest companies, RAKIA manages a number of other business entities, including RAK Offshore, a one-stop shop for foreign investors looking to establish themselves in the emirate.

With a steadily growing roster of foreign firms, RAK FTZ and RAKIA represent a major potential growth driver for the local financial services sector. Many financial institutions in the emirate are working to develop new banking and insurance products aimed at SMEs, in particular, with the aim of tapping into this market (see analysis).

In addition to increased private sector activity, local banks are expected to benefit from an uptick in government spending in 2012. In March 2011, the federal government announced that it would spend Dh5.7bn ($1.55bn) on new infrastructure development, with a particular focus on transport, power and water projects. A substantial percentage of this investment will go into projects in the Northern Emirates, which have experienced power and water shortages in recent years (see Energy chapter).

Additionally, in June 2011, the federal government announced that it had allocated Dh7bn ($1.91bn) towards housing loans for RAK residents. Local financial services institutions are expected to benefit by receiving a steady stream of new opportunities as a result of this government spending.

MONETARY POLICY: When the UAE was established in 1971, a variety of regional currencies were in circulation in the new country, including the Bahraini dinar and the Qatar and Dubai riyal, the latter of which eventually became the Qatari riyal. In May 1973, the newly created UAE Currency Board – which later became the central bank – launched the country’s official currency, the dirham. In 1978, the young currency was pegged to the IMF’s Special Drawing Rights, but the central bank switched to the US dollar in November 1997, which is still in place today.

The central bank has access to a variety of monetary instruments with which to ensure the dirham’s stability. That said, the dollar peg means that the institution’s independence is fairly limited in controlling inflation with interest rates and other related tools. Interest rates in the UAE generally match those set by the US Federal Reserve.

In mid-2011, the three-month Emirates interbank offered rate (EIBOR) hit a seven-year low, reaching 1.47% in August, down from around 1.915% in November 2009 and over 2% in the first quarter of 2011. The drop can be partly attributed to the rapid rise in bank deposit rates in the UAE over the past year, which is, in turn, the result of capital flight to the UAE due to political unrest elsewhere in the region. Additionally, in May 2011, the central bank urged UAE-based banks to lower their interest rates and increase lending in an effort to encourage growth in the wider economy.

In August 2011, the consumer price index (CPI) for the UAE reached 115.76 (base year 2007=100), up 0.6% from a year earlier. The country’s CPI dropped substantially in 2009, primarily as a result of falling property prices in the wake of the international economic downturn. Since then the inflation rate has stayed relatively steady. In a speech in March 2011, Sultan bin Nasser Al Suwaidi, the governor of the central bank, said inflation in the UAE is not a worry.

CREDIT RATINGS: The international credit ratings agencies have consistently awarded RAK high ratings in recent years. In early December 2011, S&P announced that it had affirmed RAK’s long- and short-term A/A-1 foreign and local sovereign currency ratings for 2012, citing the emirate’s stable outlook, sustained economic growth and membership in the UAE for the high rating. A media statement released as part of S&P’s announcement read, “In our opinion, membership of the UAE benefits RAK’s economic and political stability, and the UAE would provide external support in situations of political, economic or financial stress.”

RAK’s high rating was not solely a reflection of its status as a member of the UAE, however. S&P also said that the ongoing expected high demand for the emirate’s major industrial products – including cement, aggregate, ceramics and glass – bodes well for continued economic expansion in 2012 and further in the future. In addition to the primary A/A-1 rating, S&P announced that its transfer and convertibility assessment on RAK was AA+.

In April 2011, Fitch Ratings affirmed RAK’s long-term foreign and local currency issuer default ratings at A, with a stable outlook. Primary drivers for the ratings included transparent public finances and the emirate’s strong macroeconomic performance in recent years, according to a press release. “RAK has significantly bolstered its creditworthiness over the past year,” said Richard Fox, Fitch’s head of Middle East and Africa sovereign ratings.

BANKING: RAK’s banking sector consists of two locally headquartered institutions – RAKBANK and Commercial Bank International (CBI) – and a variety of players from the other emirates and further afield. The local banking industry is fully integrated into the UAE’s financial services sector, with both local institutions carrying out business throughout the country. According to a report released in October 2011 by the Beirut-based Union of Arab Banks (UAB), the UAE has the largest banking sector in the Arab world, controlling more than 18% of the total assets and 28% of the total capital of the 470 banks that were members of the UAB in the first half of 2011. According to the banking group’s report, the UAE’s 23 national banks and the 28 foreign institutions operating in the country boasted total consolidated assets valued at some $464bn at end-June 2011, up from about $413bn at the end of 2009 and $437bn at the end of 2010.

DEPOSITS: In 2011, banks in the UAE – and in RAK – benefitted tangentially from the regional political unrest brought about by the events of the Arab Spring. Capital flight into the UAE from countries that were affected by the protests paired with high interest rates in the first half of the year and resulted in a major bump in deposits. Annual deposit growth at UAE banks reached a high of 16% in April 2011, compared to a 2010 peak of 7.5%. By the third quarter of 2011, however, deposits had tapered off, largely as a result of falling interest rates – the three-month EIBOR bottomed out at 1.47% in August, for example. Regardless, compared to other banks in the region and around the world, UAE-based financial institutions are well positioned to continue posting solid growth ahead. At the end of 2010, according to Moody’s, UAE banks boasted average Tier-1 capital of 14.3% of total assets, substantially higher than most banks around the world, not to mention more than double the 6% recommended by Basel III.

RAKBANK, which was established in 1976 and is controlled by the government, has dominated the local banking sector for years. In 2011, according to a preliminary report released in January 2012, the bank posted net profits of Dh1.2bn ($326.64m), up around 20% on the previous year. RAKBANK’s growth over the course of the year can be largely attributed to expansion in the bank’s SME and retail product lines, which have become major growth drivers in recent years. “The bank has continued to seek business opportunities in its chosen segments (retail and SMEs) and as a result, net interest income rose to Dh1.98bn ($539.96m), an increase of 23.4% over 2010,” said CEO Graham Honeybill (see analysis).

CBI was founded in RAK in May 1991. The bank is owned by an assortment of public and private investors. Qatar National Bank holds 16.5% of CBI. As of the end of the third quarter of 2011, the most recent date for which statistics were available at time of publication, CBI’s net profit for the year had dropped from Dh107.89m ($29.37m) to Dh62.86m ($17.11m), down 41.73%.

According to a report released by the bank, the decline in profits can largely be traced to lower commission and income fees due to new regulations passed by the central bank. In the report, CBI’s management recognised that 2011 was a year of transition for both the bank and international financial markets in general. “We pursued business growth in selected pockets of growth and continued to hold our conservative stance in light of the turbulent macro-environment globally,” said Mohamed Sultan Al Qadi, CBI’s chairman. Indeed, like RAKBANK and many other financial institutions in the UAE, in 2011, CBI posted growth in net interest income, which jumped 14% year-on-year, from Dh254.77m ($69.35m) to Dh290.64m ($79.11m) (see analysis). As of early March 2012, CBI operated 17 branches and 91 ATMs in the UAE.

In addition to RAKBANK and CBI, the majority of the UAE’s 23 domestic banks operate branches and, in most cases, ATMs in RAK. The nation’s largest bank, Emirates NBD (ENBD), operates two branches in the emirate, for example – one on the corniche, RAK’s coastal road, and one in Al Mamoorah. As of the end of 2010, ENBD controlled almost $78bn in assets, making it the largest bank in the Arab world, though by late 2011 it had fallen to the third-largest rank due to growth at Saudi Arabia’s National Commercial Bank and Qatar National Bank.

Other major UAE-based institutions that are currently active in RAK include the National Bank of Abu Dhabi, Abu Dhabi Commercial Bank, Dubai Islamic Bank and Mashreq Bank. Additionally, a large number of foreign banks also operate in the emirate, including HSBC Bank Middle East, Bank of Baroda (India), Banque Misr (Egypt) and Arab Bank (Jordan).

BUILDING UP: The thriving IFS segment is seen as a major growth sector among banks that carry out business in RAK. This is in line with the increasing popularity of IFS throughout the Middle East and further afield. According to The Banker magazine, the top 500 sharia-compliant banks around the world held total assets valued at more than $1trn in 2011, up from around $822bn in 2009.

The UAE is a major player in the IFS industry. It is home to Dubai Islamic Bank (DIB), the world’s first full-service sharia-compliant financial institution. Founded in 1975, DIB was the sole provider of IFS in the UAE for the following two decades. In 1985, the central bank introduced federal Law No. 6, which serves as a regulatory framework for the sector, opening the floodgates.

Since the late 1990s, the local IFS industry has grown exponentially. The second sharia-compliant bank to open its doors for business in the UAE was Abu Dhabi Islamic Bank, which set up shop in 1998. It was soon joined by a number of other sharia-compliant institutions, including Noor Islamic Bank, Ajman Bank, Sharjah Islamic Bank, Dubai Bank, Emirates Islamic Bank and Al Hilal Bank, among others.

There were eight locally headquartered Islamic banks active in the nation as of mid-2011, according to statistics cited by Al Suwaidi in a speech delivered in June of that year. Most of these institutions operate branches and/or ATMs in RAK, which is considered to be a major potential growth area for sharia-compliant services.

As of the end of 2010, the most recent date for which statistics are available, according to Al Suwaidi, deposits at Islamic banks in the UAE totalled Dh198bn ($53.9bn), which was equal to 18.7% of total banking deposits in the country. Similarly, loans and advances from sharia-compliant institutions reached Dh169bn ($46bn) at the end of 2010, which was equal to around 16.4% of the national total.

DIB is currently the largest provider of IFS both in RAK and the UAE at large. As of early 2012, the institution operated 74 branches throughout the country, including four in RAK, one of which catered exclusively to female clients. Since 2009, DIB has served as RAK’s official escrow agent, and it has experienced solid growth in recent years. In 2011, DIB posted a net profit of Dh1.01bn ($274.92m), up from Dh806m ($219.39m) the previous year. The bank is listed on the Dubai Financial Market.

Additionally, a variety of international conventional banks operate Islamic “windows”, in an effort to tap into the rising demand for sharia-compliant services and products in the UAE. HSBC Amanah, for example, is the IFS division of the UK-based HSBC Group, and functions as a full-service sharia-compliant bank in the UAE and eight other countries with major Muslim populations.

Crédit Agricole, a multinational, France-based financial institution, offers a wide variety of Islamic services through its sharia-compliant window in the UAE. Both of RAK’s locally headquartered banks currently hold licences to offer IFS. As of March 2012, RAKBANK and CBI were planning to launch their IFS offerings before the end of the year.

PREMIUM GROWTH: Like most other insurance markets in the Gulf, RAK’s insurance sector is young and rapidly expanding. In 2010, insurance penetration in the UAE as a whole reached 1.9%, according to a mid-2011 report released by Dubai-based Alpen Capital. This is substantially higher than many other countries in the region.

In Saudi Arabia, for example, the insurance penetration rate topped out at 1.1% in 2010, and in Kuwait it reached just 0.4%. Indeed, the UAE boasted the single largest insurance sector in the GCC in 2010, with local insurers contributing 43% of total regional premiums over the course of the year, according to Alpen Capital. In total, the local insurance sector pulled in gross written premiums worth Dh22bn ($5.99bn) in 2010, up 10% from the previous year, according to the Insurance Authority (IA), the federal body that regulates the sector.

In 2010, the UAE was home to 57 insurance companies, around 10 of which were active in RAK. The top three national firms – namely Oman Insurance (which, despite its name, is based in the UAE), Abu Dhabi National Insurance and Arab Orient Insurance – controlled around 21% of the national market in total. The insurance sector in RAK is dominated by the RAK National Insurance Company (RAKNIC), which was founded in 1974, making it one of the oldest insurers in the country.

AUTO & HEALTH COVERAGE: The majority of insurance premiums in RAK and the UAE as a whole come from the motor segment. Auto coverage is mandatory in the UAE for anyone who owns or rents an automobile. The segment accounts for more than 50% of gross written premiums for the insurance sector as a whole, and at many firms this number is much higher, sometimes reaching 80-90%. Consequently, competition is fierce and premiums are low across the board, making auto insurance accessible.

This is a major challenge for RAKNIC and other insurers in the UAE. “Many insurers are chasing a not-so-expanding motor sector,” said Mustafa Vazayil, managing director at Gargash Insurance Services, a local firm. “It is a case of over-supply.”

Other important segments include cargo and transport insurance, coverage in case of fire and life insurance. As the real estate sector slowly recuperates from the global economic downturn in 2008-09, it could eventually provide a substantial amount of business to local insurance firms, especially in the form of construction and engineering cover, as well as homeowners’ insurance, for example.

Health insurance could potentially be a major growth driver in the coming years as well. The government is working to roll out a mandatory health insurance scheme, which would benefit residents and insurance companies alike. The UAE currently offers complimentary health care to citizens at public primary health care centres and hospitals.

In an effort to reduce costs at the Ministry of Health, the government plans to introduce a mandatory health insurance scheme in the near future. Under the new system, residents would be allowed to seek care at both public and private hospitals, thereby boosting the quality of care available to many Emiratis, lowering government spending on health care and increasing competition in the health insurance segment (see Health chapter).

INCREASING LENDING PRACTICES: Financial institutions in RAK face a host of challenges in the years to come. Although lending has picked up since 2008, when the global financial crisis caused some local banks to shut down their lending programmes altogether, it has yet to return to pre-2008 levels. Most notably, the real estate and construction sectors continue to face difficulty in terms of obtaining loans from banks. With this in mind, local banks are under pressure from the government and the central bank to increase lending further, in an effort to boost overall economic growth.

Managing this pressure while maintaining responsible lending practices represents a major challenge for many institutions looking to move forward. More generally, many Emiratis, especially in rural areas in the Northern Emirates, are not fully aware of the benefits of banking and other financial services. Local firms have been working to boost awareness and introduce products with rural populations in mind. The increasing interest in IFS, in particular, is expected to result in rising penetration in rural areas.

OUTLOOK: Despite these issues, most financial institutions in RAK foresee steady expansion in the coming years, based on strong growth in 2011 and the emirate’s solid fundamentals. RAKBANK, which has continued to lend throughout the international economic downturn, has concentrated on expanding its retail and SME-focused business in recent years, a move that has yielded positive results. Similarly, CBI is focusing on developing new products and services in a variety of areas, which could potentially result in substantial expansion for the foreseeable future.

Additionally, RAKBANK, CBI and other financial institutions that are active in the emirate are expected to see steady growth in the near future as a result of the local population becoming increasingly knowledgeable about, and comfortable with, banking and other financial services. The insurance sector, in particular, will likely see a major boost as a result of rising awareness in RAK and throughout the country as a whole, and renewed growth in other sectors, like real estate and construction. Overall, RAK’s economic future looks bright, making it attractive for new business development and investment.