Girding for the headwinds

The regional retail banking sector has weathered several storms over recent years, ranging from the 2008 global financial crisis, the plunge in oil prices in 2014 and now the COVID-19 crisis. How will this key banking sector fare in the near future?

The outbreak of the COVID-19 pandemic two years ago was the ultimate gut punch that tested GCC banks’ resilience in unforeseen ways and yet, they have emerged even stronger. According to Deloitte, to fully utilize the newfound resilient energy to scale greater heights, banks should take account of the tectonic shifts reconfiguring the global financial services sector such as the growth in digitalisation and evolving customer demands and expectations.

The emergence of the omicron variant of the coronavirus pandemic last November has increased growth risks and policymaking challenges globally. However, the general business and operating environment for banks in the Gulf region are expected to remain broadly the same this year as in 2021.

It is worth noting that growth in GCC banking assets is linked to regional GDP, which moves largely in tandem with oil prices. Gulf states are still reliant on oil which accounts for three-quarters of the six-nation bloc’s spending but the new lockdown measures that are being implemented globally to curb new mutations of the virus are blunting oil demand growth.

“Credit growth will remain soft and below pre-pandemic levels in most countries with the exceptions of Saudi Arabia and Qatar,” said Fitch. Though profitability pressures and strong liquidity will continue across the Gulf financial services market, capital buffers are expected to remain adequate to avert any risks that may emerge due to the pandemic.

Digital transformation has been a key battleground for banks in the Middle East region; a competition that is intensifying as incumbent banks are being challenged from all sides for market share by a combination of neo banks and nontraditional participants.

Banks across the globe are spending hundreds of millions of dollars (more than most industries) on their digital transformation agenda but will these digitalisation strategies translate into a true return on investment (ROI)? McKinsey & Co. in a report said that since digital transformation is never-ending and the window of change is dwindling, leaders across the financial services sector need to escape the technology trap mindset and have clear, actionable plans.

The GCC banking sector has weathered several storms over recent years ranging from the 2008 global financial crisis to a plunge in oil prices in 2014 and now the coronavirus crisis. The second wave of deal-making across

the GCC banking could begin when the full impact of the current challenging operating environment becomes visible.

Fitch Ratings said that the fragmentation in the Bahraini banking system is greater compared to its regional neighbours, resulting in strong competition and weak pricing power.

Overall, the business environment for GCC banks is expected to remain solid because growth will continue to present business revenue and growth opportunities as regional economies are recovering from the COVID-related contraction.

Digital transformation

The outbreak of the pandemic presented an opportunity for the global financial service sector to accelerate and strengthen the digitalisation of complex processes and end-to-end customer journeys across the front, middle and back offices, a trend that was already in full throttle in the Middle East. The current operating environment is putting to test banks’ digital transformation journeys and, in some cases, forcing the c-suite level to revisit their transformation strategies and make customers the focal point of their digitalisation drive.

Payments

Digital payments remain one of the best performing financial services products but unfortunately for banks, traditionally the main providers of payments services, this momentum is no longer extending to most of them especially under the current operating conditions.

“The payments landscape in the Middle East is heading for an inflection point,” McKinsey said while crediting new government and regulatory initiatives as well as the entry of new local, regional and global payment providers in the market for rapid changes in a region that remained heavily dependent on cash.

The ongoing health crisis undoubtedly accelerated a string of existing trends in both consumer and business behaviors while introducing new developments that saw the use of digital payment methods surpassing the use of cash and debit cards.

“Driven by changes in digital technology, consumer demand and competitive forces, the way people make payments is evolving faster than any other area of financial services,” said EY.

The competition between payment services providers can be considered a battle to achieve competitive advantages using precise strategies to obtain favorable positions. To maintain a competitive edge in a crowded market or adapt to changing operating environment, payment services providers across the GCC must understand the needs and expectations of their customer base.

The ongoing shifts toward e-commerce, digital payments (including contactless), instant payments and cash displacement have all been significantly boosted in the past two years, said McKinsey. The COVID-related restrictions that were introduced by regional governments to curb the spread of the virus shifted consumer and business behaviour towards e-commerce platforms making it imperative for financial service providers to provide seamless payment solutions.

A study that was conducted by Mastercard in the Middle East showed that 70% of the participants are using some form of contactless payment method since the outbreak of the pandemic due to safety concerns while 81% of the respondents noted that they would continue using digital payments post-pandemic.

Boston Consulting Group and Swift expect the global digital payment sector’s revenues to hit the $1.8 trillion mark in 2024, from $1.5 trillion in 2019, buoyed by the continued transition away from cash, sustained strong growth in e-commerce and electronic transactions plus greater innovation.

Digital banking

GCC banks are pro-innovative and industry experts expect them to continue to dominate the financial services industry as the sector goes more digital. The digital transformation in the financial services industry is also being driven by banks’ tech-savvy customers and regulatory initiatives such as regulatory sandbox and open banking, which are creating an enabling environment.

“Digital transformation is no longer a luxury, but a necessity. Banks that are agile, flexible, and willing to transform their business models will be the ones that succeed, and secure their financial strength for future growth,” said KPMG.

UAE’s Mashreq Bank and Emirates NBD launched digital-exclusive banks for SMEs, NeoBiz and E20 respectively, in September 2019 to support one of the UAE’s important sectors. The unveiling of digital banks for SMEs came exactly two years after both Mashreq Bank and NBD had launched Mashreq Neo and Liv., lifestyle digital-only banks that seek to meet the banking needs of millennials.

The country’s first independent digital banking platform, YAP, started operations in August 2021 and it is powered by RAK Bank. Abu Dhabi sovereign wealth fund ADQ is also considering setting up a digital bank using a legacy banking license of First Abu Dhabi Bank.

Zand, the UAE’s first Shari’ah-compliant neobank is expected to open its doors for business soon after its shareholders acquired the majority of shares in Dubai Bank from Emirates NBD. Dubai Islamic Bank also unveiled its digital offering rabbit last December - a digital app that is aimed at tech-savvy customers. It offers a current account, globally accepted debit card, payments and money transfer services.

Bahrain’s Bank ABC launched ‘ila Bank’ in 2019 – an AI-powered and data analytics digital-exclusive bank. ila Bank is expected to launch its services in Jordan this year before it expands into Egypt, and it also started offering credit cards and loans to Bahraini customers last March.

Saudi Arabia’s cabinet also gave the Gulf state’s finance ministry green light to issue licenses for the country’s first digital banks in June 2021. stc pay (stc Bank) will be converted into a digital bank with a capital of $667 million, while the Abdul Rahman bin Saad Al-Rashed and

sons company-led consortium will set up another digital bank (Saudi Digital Bank) with a capital base of $400 million.

Digital onboarding

Digital onboarding is an essential feature that determines whether a bank can easily acquire new customers especially from the tech-savvy millennials, a key segment for GCC banks. It is the first contact that a new customer has with the bank and the process should be intuitive, seamless, responsive and efficient.

“An automated process is a mutually beneficial situation offering speed, efficiency and convenience for the customers and bank professionals for more value-added tasks,” said Deloitte. Customer onboarding entails the guidance of a new user in the first steps of platform accessibility. The process is a critical step in a customer’s journey with a financial institution as it leaves a long-lasting impression in the clients’ minds about how they perceive a financial institution.

Digital transformation in the banking sector is customer-driven as financial institutions seek to enhance services and products as well as tap into new market and customer segments. Having seamless onboarding and origination processes is pivotal in accelerating digital-first executions and increasing cross-sell opportunities.

To adapt to a changing landscape in response to the evolving forces of customer expectations and maintain a competitive edge, GCC banks should ensure that their onboarding process is as simple as possible with low documentation requirements, offering simple online uploading capabilities and precise explanation during the onboarding process. Banks can also incorporate interactive assistance through chatbots to enhance the seamless customer experience.

M&A

The region’s banking system remains highly fragmented making competition intense, and the situation is expected to intensify due to the shrinking population in some countries after expatriates departed for their countries amid massive job losses in the past two years.

The Bahraini banking system, in particular, is ripe for mergers and acquisitions (M&A) and the authorities are reportedly supportive of consolidations but sound profitability and a lack of common shareholders prevent obvious tie-ups. “Nevertheless asset quality, profitability and capital pressures at some banks could result in more tie-ups in 2022,” said Fitch Ratings.

Last year, Bahrain’s Bank ABC agreed to acquire Blom Bank Egypt in a deal valued at $427 million and the takeover, which is subject to regulatory approvals in Bahrain, Egypt, and Lebanon, is expected to close in Q1 2022.

Saudi Arabia last April completed the landmark merger between National Commercial Bank (NCB) and Samba Financial Group (Samba) into Saudi National Bank (SNB), a banking giant with around $241 billion (SAR 901 billion) in assets as of Q3 2021. SNB is expected to be on equal footing with regional rivals Qatar National Bank and First Abu Dhabi Bank.

S&P Global said that the first wave of M&A was driven by shareholders’ desire to reorganize their assets, including the tie-up between NCB and Samba, a deal that involved a common shareholder, the Saudi Arabian government through the Public Investment Fund.

Qatari lender Masraf Al Rayan also completed its $50 billion (QAR 182 billion) consolidation with Al Khalij Commercial Bank in November last year. The merged entity called ‘Masraf Al Rayan’ is expected to complete the integration of products and services this year. The tie-up created the Gulf state’s second-largest bank with an asset base and one of the largest Shari’ah-compliant banks in the region.

Egypt’s biggest investment bank, EFG Hermes, also completed its takeover of state-owned Arab Investment Bank (aiBANK), transforming itself into an Egyptian universal bank, last November. EFG Hermes, which agreed to acquire a 51% stake in aiBANK last May, said that the takeover will make it an investment bank, a commercial bank and a platform for non-bank financial institutions.

Meanwhile, UAE’s First Abu Dhabi Bank, which acquired Bank Audi Egypt in April 2021, expects to finish merging its Egyptian operation with the newly acquired bank in 2022.

However, the pandemic stalled the negotiations on the region’s only crossborder tie-up between Kuwait Finance House and Bahrain’s Ahli United Bank, which was postponed until further notice. The challenging operating environment might push some banks in the Gulf region to find a stronger shareholder or join forces with peers to enhance their resilience.

Fiscally fit

The adverse economic headwinds of COVID-19 will challenge retail banking margins as the global economy remains in recession with the trajectory that the pandemic is following remaining unclear. Despite the ongoing economic uncertainty, higher oil prices and an increase in crude production this year and beyond will improve the fiscal position of GCC governments while reducing the debt burden of most of them.

“Stronger government finances benefits banks’ solvency, funding and liquidity due to the governments’ dominant role as key depositors, borrowers and shareholders in their country’s banking system,” said Moody’s.

Industry experts expect profitability for Emirati, Omani and Kuwait lenders to improve moderately in 2022, but a return to pre-pandemic levels is unlikely in the context of a lower interest rate environment. Meanwhile, Saudi and Qatari banks’ profitability is expected to remain resilient despite the lower interest rate environment and elevated loan impairment charges driven by a favorable market structure and healthy credit growth respectively. Moody’s said that the shock from the pandemic made little impact on GCC banks’ strong capital buffers and most lenders remain profitable despite higher loan-loss provisioning.

Adapt and Survive

Starting by highlighting the Mashreq Chairman’s view that banking will be shaped by banks that survive the next 10 years by transforming into fintechs with a banking license, Thomas Cherian Executive Vice President, Head of Retail Banking Technology and Retail Technology details what to expect in the development of the successful banks of the future

What key actions should the regions retail banks take to ensure they thrive in the near to medium term?

Notably, Mashreq’s chairman H.E. Abdul Aziz Al Ghurair highlighted that the future of banking will be shaped by banks that survive the next 10 years by transforming into fintechs with a banking license.

Digital transformation has left a strong mark on Middle East’s banking industry. Yet, the maturity scale of transformation is moderate with fewer banks reimagining their current strategy. However, the banking sector is beginning to reinstitute themselves while catching up with swift digitalization. To create winning strategies and synergies within the ecosystem, banks must focus on the following three trends.

A. Digital-first platform- banks must adopt a digital-first outlook to provide greater flexibility, transparency and quicker access to solutions.

Platforms like OTT have paved

Thomas Cherian Executive Vice President, Head of Retail Banking Technology, Retail Technology way for instant gratification and influenced consumers to expect on demand services. Similarly, the expectations from bank providers have evolved - consumers are on the look-out for digital bank platforms that can enable a wide array of services such as payments, fund transfers, and even deposits through online, zerotouch mediums.

B. Lifestyle banking through open ecosystems – Increasingly, customers want their tools, information and services to be able to engage with different companies on an open network for a hassle-free experience.

To enable this, banks must focus on building APIs for deep connectivity and partnership with platform businesses such as ecommerce service providers, social platforms, messaging platforms and home devices.

C. Switch to microservices –

Switching from one major core banking provider to microservices and multiple third-party tech vendors will help banks avoid technical debt in the long-term, substantially reducing the time-to-market for new financial products to become market leaders.

It provides a competitive-edge and help in better competing with dynamic market demand. Also, a microservice architecture allows banks to build ecosystems and partnerships for future scaling.

Over the last two years, Mashreq has focused on becoming a superior customer experience bank. By leveraging the tech stack, we have been able to improve operational processes and increase efficiencies. Today, 85% of customers are onboarded through digital banking platforms and 92% financial transactions are performed through

digital channels. We have created zerotouch processes for customers, enabled work from anywhere for employees, and implemented AI-driven processes for operations. Mashreq is also digitalizing on the outside to build a super-app to provide platform banking systems by integrating our services and products with those offered by our partners in the ecosystem. Going forward, this year, we will transform into Banking as a Service (BaaS) to provide our solutions to our partners’ customers.

How will the co-existence of legacy retail banks and neo banks evolve in the coming years?

Agility, innovation and data are three key components that enable banks to diversify and succeed. Traditional financial institutions are evolving with current times by responding to the modern requirements of consumers by focusing on those three components. As a result, legacy banks are launching digital banks of their own to remain competitive among fintechs and neobanks. One of the most effective operational models is represented by established players that leverage existing assets and tech-stack to offer omni-channel and interoperable experiences to consumers.

Are new developments in retail customer onboarding nearing their limits or is there room for further innovation?

Innovation is a continuous process and requires constant agility to respond to current market requirements. Hence, there is always room to enhance, ideate and create further with the help of technology. Onboarding is a crucial step in the customer lifecycle as it often among the first experience customers have with banks. To smoothly onboard customers, open networks and integration with third parties play a crucial role in cross-sharing of existing KYC data. If banks optimally enhance this process, it can result in minimal identity verification and lesser KYC data-entries, further improving the onboarding time. By implementing simplified & intuitive user interfaces, banks can also reduce onboarding steps to enable instant account opening.

At Mashreq, we believe it is important to collaborate with companies in the ecosystem to offer superior experiences to customers. We have partnered with EFR to validate the customer identity in real time, while providing KYC related

During this period of ongoing digitization how are you managing the generational differences between your customers?

Banking preferences and customer behaviour are continuing to evolve. Due to restrictions on in-person interactions, MashreqNeo, our neobanking platform witnessed positive customer engagement and satisfaction from various age segments, especially those

ONBOARDING IS A CRUCIAL STEP IN THE CUSTOMER LIFECYCLE AS IT OFTEN AMONG THE FIRST EXPERIENCE CUSTOMERS HAVE WITH BANKS

information which requires minimal intervention from the customer. This simplifies the journey - enabling customers to open accounts with Mashreq in under two minutes.

In a time of more options and easier onboarding, how are you encouraging customer loyalty?

Mashreq has been at the forefront of introducing innovative services and digitalizing processes, including onboarding to provide customers with choice and flexibility. On average, customers have a lifecycle of 7 years with Mashreq as per our internal research. While this loyalty is built on rewarding customers at various stages of the lifecycle such as first transactions, birthdays, anniversaries etc. it is also formed at the back of innovative, valueadd services we offer customers. Our core competency is delivered through digital intelligence that enables us to analyse consumer trends and provide tailor-made products and services geared towards their requirements. 45 and above. On the other hand, Gen Z and millennial customers are more drawn to mobile banking apps than other generations for instant banking satisfaction and functionality.

To build a sustainable engagement strategy across different generations, Mashreq is focused on delivering omnichannel experiences that offer integrated, hybrid banking experience across all touch points such as branches, online banking, mobile apps, chatbots and call centers. This can help cater to the younger, digital native segment as well as the older generation.

We’ve also seen that mobile apps are a core and central platform for customers. As a hub of interconnected and interoperable experiences, these apps witness higher digital engagement, irrespective of a customer’s generation. While accelerated demand for digital services continue to rise across customer generations, preferential differences between physical and digital touchpoints will remain. Hence, a hybrid banking experience will be crucial in the success of banks.