South Africa's largest banks have built up sizeable capital buffers to withstand a likely spike in loan defaults, while regulatory moves to aid lenders should help them navigate a looming recession.

Although analysts are divided over the long-term impact of easing certain banking regulations in Africa's largest banking sector by assets, there is agreement over the need for bank liquidity to deal with the effects of the coronavirus. President Cyril Ramaphosa has imposed a strict lockdown and the country had, as of May 4, reported 138 deaths due to COVID-19.

The South African Reserve Bank, or SARB, forecasts that the pandemic would cause South Africa's economy to shrink 6.1% in 2020 and amid the economic shutdown, the central bank has taken numerous measures to help fortify banks.

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These include waiving capital charge increases for loans that are restructured as a result of the impact of the virus. These loans can be to households, small and medium-sized enterprises, or corporations.

Banks can also reduce their liquidity coverage ratio to 80% from 100%. Banks' Pillar 2A capital buffer, which covers risks not captured in other measures, was previously a minimum 1% of risk-weighted assets, but this has been cut to zero. Under some circumstances, banks can "dip" into their capital conservation buffer, which normally equates to 2.5% of risk-weighted assets.

"There will be a liquidity crunch — for both banks and corporates, so SARB support will be very important for lenders," said Harry Botha, a banking analyst at Avior Capital Markets in Cape Town. "All the major banks are systemically important so should all receive some support from SARB to ease any liquidity problems."

The regulator has also urged banks not to pay dividends or bonuses to senior executives. These are all temporary measures and the SARB will decide how long they will apply based on how the pandemic pans out. Such uncertainties have raised fears that laxer rules will weaken the banking sector, but Thato Mashigo, portfolio manager at Sanlam Private Wealth in Johannesburg, played down these worries.

"Easing the buffers isn't a long-term threat to banking stability because these should be temporary measures aimed at improving liquidity in the short term," said Mashigo. "One should expect these measures will be reversed once the situation with COVID-19 has turned around."

Paul Hollingworth, managing director of London's Creative Portfolios, was more skeptical. "There's a relaxation of banking rules worldwide, so I wouldn't single out South Africa," he said. "This is meant to be temporary, but we all know what temporary can become."

Attractive valuations

The common equity Tier 1 ratios of South Africa's big four banks vary, according to S&P Global Market Intelligence data, from market leader Standard Bank Group Ltd.'s 12.75% as of 2019, to Absa Group Ltd.'s 11.56%, Nedbank Group Ltd.'s 11.36% and FirstRand Ltd.'s 11.26%.

Standard Bank's first-quarter earnings attributable to ordinary shareholders fell 27% year over year as credit impairment charges soared and margins fell, the lender said in an April 22 trading update.

"The capital buffers were built up to prepare for a crisis and the banks will be under pressure," said Botha. "The risk from an investor perspective is that those buffers will have to be rebuilt, which will consume dividends not just for the crisis period but a good couple of years afterwards."

Yet such has been the decline in the quartet's stock prices that they have now become a "tactical investment opportunity," said Hollingworth. "Nedbank catches the eye in terms of valuation, also Absa. Valuations have tumbled as emerging market investors cut their exposure to South Africa."

Sector exposure

In terms of assessing potential coronavirus impact, the banks' loan books differ by borrower type. Of Standard Bank's 1.18 trillion rand of loans and advances at the end of 2019, 36% was to corporate and sovereign borrowers and 32% was mortgage loans.

"There's an old saying: When I owe the bank $100 and I default, it's my problem, when I borrow $100 million and default, it's the bank's problem," said Mashigo.

"In corporate banking, you're talking about large amounts and some companies with strained balance sheets may struggle to make interest payments, but the first resort is to make arrangements such as to delay payments, capitalize interest to a future date, renegotiate interest rates or add additional collateral."

Nedbank's loans and advances totaled 814.4 billion rand at December-end. Mortgage loans accounted for 342.04 billion rand and were nearly evenly split between home loans and commercial mortgages. By sector, retail lending was the largest contributor to Nedbank's loan book, totaling 298.46 billion rand.

Financial services, insurance and real estate at 217.05 billion rand and manufacturing at 69.72 billion rand were other notable components.

"Sector exposure can be misleading — banks give quite a rough classification," said Botha.

"Nedbank has a large exposure to commercial mortgages, but a lot of its borrowers, especially the listed ones, run pretty big buffers in terms of collateral or loan-to-value ratios and there should be a fair amount of support from Nedbank and maybe other lenders to ensure these debts remains current."

Absa's loans and advances at end of 2019 were 806.41 billion rand, of which 506.48 billion rand was lent by its retail and business banking unit, 298.23 billion by its corporate and investment banking unit and 111.47 billion rand by its foreign subsidiaries.

"To estimate which banks will be least or most affected by the crisis, you have to make assumptions about consumer behavior and how they will prioritize their spending," said Mashigo. "You'd assume that the more essential expenses will be prioritized, so you'd pay your mortgage before paying a car loan, and a car loan before a personal loan. Absa, which has a large mortgage book might be better positioned."

Botha identified tourism, hotels, travel and restaurants as worst-hit by the crisis.

"The big four's NPL ratios are similar and low by historic standards, while provisioning is high. So, according to those metrics, it's hard to distinguish between the banks — the real distinguishing factors are their level of capital and level of liquidity," said Botha.

As of May 4, US$1 was equivalent to 18.71 South African rand.