Moody's: Thai banking system stable over the next 12-18 months; strong loss buffers and steady profit

Moody's Investors Service says that the outlook for Thailand's banking system is stable over the next 12-18 months, and reflects primarily the banks' strong loss absorption buffers.

"The banks' high provisions and strong capitalization levels--against the backdrop of the slow credit growth environment--will allow them to maintain their credit profiles over the next 12-18 months," says Alka Anbarasu, a Moody's Vice President and Senior Analyst.

"However, weak economic growth will remain the system's key operating challenge," adds Anbarasu.

Moody's conclusions were contained in its just-released report on Thai banks, entitled, "Strong Loss Buffers and Steady Profits Support Stable Outlook," and is authored by Anbarasu.

The stable outlook is based on Moody's assessment of five drivers: Operating Environment (stable); Asset Quality and Capital (deteriorating); Funding and Liquidity (stable); Profitability and Efficiency (stable); and Systemic Support (stable).

Moody's baseline scenario assumes that real GDP growth in Thailand will average 2.8% in 2016 and 3.0% in 2017; a subdued pace, given the country's growth potential. Sluggish exports will prove a key driver of the modest growth rate.

Moody's report points out that while stimulus measures from the government could provide some countercyclical support, they will do little to address the key domestic challenges that weigh on private demand, including high household leverage, continuing political uncertainty, and the lack of structural improvements for the country's export-oriented manufacturing infrastructure.

On the issue of asset quality, Moody's says that the banks will demonstrate a moderately deteriorating asset quality--led by small- and medium-size enterprises (SMEs) and the retail segment--because such borrowers will face the greatest repayment challenges in the weak operating environment.

During 2015, some banks saw a jump in their credit costs, owing to the default of a leading steel producer, Sahaviriya Steel Industries Public Company Limited (unrated). Despite the one-off event, Moody's says that over the next 12-18 months, overall corporate loan quality will be stable, supported by the their strong overall debt servicing capacity.

In addition, credit costs will remain elevated, as the banks try to shore up their countercyclical buffers amid a more challenging operating environment.

Moody's report also says that the banks will see further pressure on their loan incomes from weak demand for credit. Nevertheless, their increasing success in developing non-loan income will help sustain their profits at levels sufficient to meet potential credit costs and maintain their capitalization levels.

Another contributor to the banks' resilience is their strong loss absorption buffers, which rank in line with many of its nine peers in the Association of South East Asian Nations.

The report points out that Moody's stress test shows the resilience of the Thai banking system. Under a stress scenario--which assumes a jump in non-performing loan ratios to 14% and an increase in credit costs to 4% of loans from the current 1%--Moody's-rated banks would see a drop in their average Tier 1 capital ratio to a passable 9.2% from 12.8% in 2015.

As for funding and liquidity, Moody's says such conditions should remain stable in the current slow loan growth environment. Moody's expects that the banks will maintain their loan-to-deposit ratios below 100% over the next 12-18 months.

Moody's rates a total of 12 banks in Thailand: nine commercial banks and three policy banks. The nine commercial banks represented 84% of commercial banking system assets at end-2015.

Moody's has maintained a stable outlook on the Thai banking system since 2010.