Global oil price volatility may be weighing heavily on Malaysia’s economy, but such events are not putting the country’s banking sector off its stride. Indeed, its lenders are increasingly looking to opportunities in the Asean region and Islamic banking to diversify their balance sheets. 

When Brent crude oil prices started plummeting drastically in 2014 from a $115-a-barrel high to less than $50 a barrel in early 2015, worries arose for countries that depend on exports of oil and gas.

Malaysia falls in this category. But many forget that although the country remains a net natural gas exporter, it is also a net oil importer. So while Malaysia has been affected by the heavy drop in oil prices, the situation is far less panicked than perceived externally.

Market participants welcomed the Malaysian government’s proactive response to the oil price move with a budget recalibration in January 2015, in which the deficit target was increased to 3.2% from 3%. Further revisions might be necessary if oil prices drop below $55 a barrel, which was the benchmark used for the budget announcement in January.

Analysts are also confident that Malaysia’s banking sector is robust enough to sustain potential loan deterioration from businesses hit by government spending cuts and oil price drops. In addition, opportunities to expand in the Association of South East Asian Nations (Asean) countries and the development of Islamic banking continue to offer strong growth potential, despite the oil price volatility.

Further reassuring signs come with Malaysia’s role as the chair of Asean for 2015, an opportunity the country will use to strengthen cohesion among member states, as well as encourage local banks starting operations within the Asean region.

Banks and the oil dip

Although the oil price move was significant, local banks and analysts do not fear for the banking sector. Malaysia University of Science and Technology School of Business dean and economist Dr Yeah Kim told local media that the direct impact of government budget cuts on local banks has been peripheral, and is not likely to be significant as total assets in the banking sector exceed RM2000bn ($555.2bn).

Nor do non-performing loans pose a threat to the Malaysia banking sector, he adds. And, as with many of their peers in Asia, Malaysian banks benefit from strong capitalisation and significant liquidity.

In the case of Maybank, even exposure to the oil and gas sector is limited. “Our exposure to the oil and gas sector is less than 3.5%,” says Farid Alias, president and chief executive at Maybank.

In the current environment, market participants will be monitoring Malaysian oil and gas giant Petronas closely. “To a certain extent, a lot of people want to know Petronas’ plans on how to respond to market circumstances as the oil and gas sector in Malaysia is linked to Petronas,” says Mr Alias.

The firm has announced that it will reduce its operating expenditure by up to 20%. However, market participants are not anxious. A senior executive from one local bank says: “As far as I know, Petronas is not downsizing. It wants to continue its projects and try to get better pricing with the contracts it already has.”

Also according to Zainal Amanshah, chief executive of investment promotion agency Invest KL, the local oil and gas companies are not in disastrous shape. “They might need to work a lot harder and be more competitive, but what investors tell us is that there is still business for them [in Malaysia’s oil and gas sector],” he says.

Those companies that have been affected by the drop in oil price and by government spending cuts are responding proactively. “A lot of companies are optimising; they are starting to have one location instead of operations everywhere in the region,” says Mr Amanshah.

Companies facing bigger challenges might need to delay and re-prioritise investments, and many are looking at mergers and acquisitions to tackle this difficulty. “We think this space will be pretty busy. We have seen larger players already making those moves,” says Mr Amanshah.

Asean enthusiasm

Despite being shaken by oil price movements, Malaysia is sustaining momentum in the local economy and banking sector. As the 2015 Asean chair, it is aiming to make the region as inclusive as possible, and is looking to generate enthusiasm among the Asean population – and not just at the business level – to overcome the remaining obstacles in establishing the Asean Economic Community (AEC).

Market participants feel it is unlikely that the 2015 deadline for formalising the AEC will be met. While significant progress has been made in opening up trade, the task of liberalising the services sector – especially local banking markets – has proved difficult as member states are at different stages of development and are more or less prone to allowing foreign banks to enter their markets. “An issue might be very easy to solve between Malaysia and Singapore, but things change when you go to countries such as Myanmar and Vietnam,” says Mr Amanshah.

Government minister and chief executive of the Performance Management and Delivery Unit, Idris Jala, has proposed that each Asean country simply nominates 10 companies that are ready to expand in the region, an idea that Mr Amanshah supports. “Let the companies go expand, see what problems surface and let’s talk through them. It is a good idea because otherwise finding a one-size-fits-all blueprint is so difficult,” he says.

Outbound investment

Malaysian banks are also riding the wave of Asean enthusiasm. After being granted a licence, Maybank is set to open its first branch in Myanmar this year.

Having not had a functioning financial system for some five decades, some market participants deem Myanmar too risky to enter. But in Maybank’s view, the country’s potential is strong. “Myanmar's banking sector is picking up, the mobile phone networks are picking up, they granted new banking licences and people are slowly discovering this country. Other than that, there are a lot of resources available in the country,” says Mr Alias.

Maybank is following its clients into Myanmar – a strategy many banks use to enter new markets. “That has been our default strategy – to support strong names from Malaysia, Singapore and Indonesia that expand abroad. We follow them in and understand the market before expanding further,” says Mr Alias.

Maybank is also looking to expand its branch in Laos, but Mr Alias emphasises that its growth strategy will not be rushed. “We want to make sure that the infrastructure we already have can turn a profit before expanding further,” he says.

High Thai costs

Within the Asean region, Thailand remains one of the trickier markets to enter for non-local banks after the regulator increased the costs of setting up operations significantly in 2014.

“Last year, the regulators in Thailand offered five new banking licences but we did not submit a proposal because we can't make business sense of it due to the cost of those licences,” says Maybank’s Mr Alias.

Despite some Asean banks’ enthusiasm to expand throughout the region, issues with reciprocity remain. For example, if five Singapore banks enter Indonesia's market, five Indonesian banks should be able to do the same in Singapore.

Mr Alias says: “Reciprocity will continue to be an issue, but it is a journey. We have to keep pushing. The private sector has to push as much as it can. The nationalistic sentiment will come on and off. The most important thing is that everybody agrees it makes sense in the long term. We can’t expect it to be perfect by the end of 2015.”

Into Islamic finance

Malaysian banks also continue to thrive in Islamic finance, thanks to growth in their global market share, the development of strong capital markets and state support of sharia-compliant products making their costs very attractive.

“Sometimes companies may use banking products but not even realise they are Islamic,” says Mr Amanshah.

Executive manager of EY’s Global Islamic Banking Centre of Excellence, Sohaib Umar, attributes Malaysia’s success as an Islamic finance centre to its regulatory clarity. Along with Bahrain, Malaysia benefits from a regulator that recognises the difference between conventional and Islamic banking, creating a separate framework that Islamic banks can respond to and implement easily. This accelerates growth and increases market share, says Mr Umar. 

But while Malaysia’s Islamic banking industry keeps growing, local banks are still struggling to enter the Middle East. Maybank, for instance, has yet to establish a strong Islamic finance capital markets franchise in the region. According to Mr Alias, this could be due to its product offering or an internal operations issue. “We have to figure out how to expand our capital markets operations. Structuring products is not an issue. The issue is: how do we distribute these products to family and local funds in the Middle East?” he says.

State-led progress

Malaysia’s government is going to great efforts to keep its fiscal deficit at bay despite the oil price volatility through its Economic Transformation Programme as well as through schemes such as the goods and services tax (GST). At a press conference for the programme’s 2014 results in Kuala Lumpur, minister in the prime minister’s department Wahid Omar said: “We are not in crisis. As we diversify our economy and broaden our economic base, it will make us more sustainable. We have low external debt, ample international reserves, and a strong, well-capitalised, well-supervised and well-regulated banking system.”

Malaysia’s reserves totalled RM386.5bn as of January 30, 2015. In 2006, the figure was only RM292.9bn.

The government’s dependence on the oil and gas sector has also dropped in recent years. Oil and gas revenues accounted for 39.3% of overall government revenue in 2006. By 2014, that figure had dropped to 29.7%.

“People thought that our economy was so reliant on oil and gas that we had a structural weakness. But Malaysia is actually a net importer of oil and a net exporter of gas. We have been steadily reducing the government’s reliance on oil and gas revenue,” said Mr Jala at a press conference.

Controlled growth

Malaysia's government is also working to minimise its fiscal deficit. “It would be very easy to have an immediate reaction [to the fall in oil prices] and say: we’ll cut expenditure and enter an austerity drive. We don’t want that. We don’t want the economy to grow on steroids. We want to control that growth and have a very steady reduction in our fiscal deficit,” said Mr Jala.

What will contribute to government revenue further is the much debated 6% GST, which was implemented on April 1. Though the public has mostly reacted negatively to this tax, ministers believe the GST could help reduce tax evasion, improve business discipline and increase state revenue.

“One hundred and sixty countries have already implemented a GST. Malaysia is one of the last to do so. This is certainly long overdue. Stop politicising the GST and let’s get on with it,” said Mr Omar at a press conference. He estimated that the GST will add 1.8 percentage points to Malaysia’s inflation, but the vast majority of market participants deem this manageable. The average inflation in the country for 2014 was 3.1%.

Although a 50% drop in oil prices has undeniably affected Malaysia, the country's outlook is far from gloomy. Its banking sector is solid, well monitored and has strong potential for further growth in business lines such as Islamic finance. On the macroeconomic front, Malaysia’s gross national income continues to increase annually, its international reserves are ample and its private sector strong. The country’s focus on Asean this year could also generate interesting inter-regional business opportunities.

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