Fitch continues to peddle fears over Lankan banks’ access to foreign funding

• Says weak sovereign rating present challenges to banks’ access to external funding   
• However, several Lankan banks were seen raising funds after sovereign downgrade in Dec. 2020
• More than sovereign credit profile, DFIs tend to look at a bank’s balance sheet strength to commit investment 

In back-to-back reports on the banking sector issued within days, Fitch Ratings peddled fears over the ability of the Sri Lankan banks to raise foreign funds for lending purposes, as they believe that Sri Lanka’s sovereign rating cut in December 2020 would hurt their chances to secure such funding lines. 

“We believe that the sovereign’s credit profile is likely to present a challenge to banks’ access to and cost of external funding,” Fitch Ratings said early this week, in a note on the foreign currency exposure of Sri Lankan banks and its risks.

Since Fitch Ratings cut Sri Lanka’s sovereign credit rating in December 2020 to ‘CCC’, several Sri Lankan banks have struck deals with a few development financiers for foreign funding lines, while others continue to hold talks with development financial institutions (DFIs) to diversify their funding profiles. 

The latest of such deals, which came into fruition, was the NDB-Norfund deal, where the latter would invest over Rs.3 billion in an equity stake of 9.99 percent in the bank.

Norfund earlier held talks with a smaller Sri Lankan bank preferably for an equity stake but the bank’s promoters balked at the idea as they to-date remain averse to any new foreign equity partners.     

In February, National Savings Bank raised a US $ 35 million loan from a consortium of lenders, which included Indian Bank and Indian Overseas Bank. 

Meanwhile, in January 2021, Nations Trust Bank PLC struck a deal with IFC for a US $ 25 million finding line.
Negative or near-zero yields in Europe and the United States at present are directing funds into frontier markets with higher opportunities for on-lend. The relative strengths of the balance sheets of the Sri Lankan banks are what drove these DFIs into the Sri Lankan banking sector and not the sovereign credit profile,

as they carryout month-long due diligence on a bank’s financial and business health before they commit their funds. 

Despite the relatively easy flow of foreign capital into the banking sector, Fitch Ratings said that foreign currency (FC) “liquidity risk remains high, as reflected in the sector’s high ratio of FC loans to FC deposits”.

 
“The ratio hit a 10-year high of 117 percent at end-March 2020 before recovering to 107 percent by end-September 2020 (2017-2019: 105 percent). The FC loan/deposit ratio of People’s Bank remained much higher than that of rated-peers because it relies on wholesale funding to support FC lending, which leaves it facing elevated refinancing risk,” the rating agency added. 

Foreign currency funding composed of 21 percent of total bank funding, Fitch Ratings showed, thus leading to high near-term refinancing needs. 

“We estimate that near-term FC refinancing needs are significant, given total short-term loans made up around 68 percent of the banking system’s external debt at end-3Q20. Banks’ short-term borrowings rose to US $ 4.6 billion by end-3Q20, even though the banking system’s total external debt declined to US  $ 6.8 billion,” the rating agency noted.