Karachi, March 17, 2022 (PPI-OT): Islamic banking operations growth catches the eye

Islamic banking operations of conventional banks have witnessed remarkable growth, where Islamic deposits of our sample of nine banks registered 32% YoY growth in CY21, compared to 18% YoY growth in their conventional deposits. With that, contribution to total bank size, as well as core profits, have also expanded; albeit with relatively lower margins in some cases.

While it can be argued that Islamic deposits are growing off a low base, we highlight that CY21 Islamic deposits growth is higher than its 5-year CAGR of 22%.

Going ahead, we believe increase in Shariah compliant investment avenues and complete re-pricing impact on assets will further propel the segment’s NIMs, enhancing their contribution to profitability further.

Islamic segment deposits expand by 32% YoY

The Islamic Banking Business segment of most conventional banks has witnessed an impressive growth in CY21. We present an analysis of nine conventional banks, where we exclude Faysal Bank (FABL) given its ongoing progress of converting into an Islamic Bank and MCB Bank (MCB) as it runs its Islamic operations through a separate subsidiary. The deposit size of our sample base of nine banks registered 32% YoY growth, as compared to 18% YoY growth in their conventional deposits. While it can be argued that Islamic deposits are growing off a low base, we highlight that CY21 Islamic deposits growth is higher than its 5-year CAGR of 22%, reflecting pick up in momentum. While the median of our sample size’s contribution from Islamic operations have expanded to 8% as at CY21, the individual contribution ranges from 3% to 18%, with mid-tiers emerging as outperformers.

Contribution to profits has room to improve

Growing Islamic operations are also increasing support to core income and bottom-line. While share of Net spreads from Islamic banking business in the bigger banks is limited to low single-digit, the mid-tiers have increased share of core operations to total NII to ~11%. That said, some banks witness a lower core margin (NIMs) despite relaxation from the Minimum Deposit Rate regulation to Islamic operations. All banks bear lower cost of funds on Islamic operations, however, given limited avenues of Shariah Investments available in the market at present, yields earned on assets average lower versus conventional assets.

We believe more auctions of Sukuks would improve Net spreads and enhance segment’s ROA/ROE. To recall, the government has set out a target of increasing the share of Shariah Compliant instrument in Government Securities to at-least 10% by end of FY23, which is ~5% at present. In addition, complete impact of asset re-pricing of recent Policy Rate increase is also expected to improve NIMs in the coming quarters.