The UAE's banking system outlook has been changed to stable from negative, reflecting the sustained improvements in the operating environment and the ongoing recovery of the local real-estate market, Moody’s said on Nov 13. Such parameters will help cut problem loan levels and increase banks profitability over the next 12 to 18 months, the ratings agency said. The UAE banks will also continue to keep high liquidity and capital buffers that were accumulated since the global financial crisis.

The UAE’s GDP will grow a real 3.6% in 2013 and 3.4% next year, Moody’s forecasts. Growth will be underpinned by continued public-sector spending, especially in Abu Dhabi and strong signs of recovery in Dubai's more diversified private sector. Such economic growth, coupled with rising confidence and the real estate market recovery, will support credit growth of 7%-10% in 2014, Moody’s noted.

Moody's expects that this favourable environment will support further retreats in the problem loans to gross loans ratio to 8%-9% over the outlook period (next 12 to 18 months), from an average of 10.5% at end-2012 (9.5% as of June 2013). Asset-quality metrics will also be underpinned by a decline in the stock of problem loans due to rising volume of settlements, recoveries and commercial restructurings and expected loan growth.

The improvement in asset quality will also reduce loan-loss provisions. The latter, coupled with modest asset growth, will help increase the UAE banks' net income to around 2.5% of risk weighted assets (RWAs) over the outlook period from around 2.0% as of end-2012, Moody’s said.

Higher net income will provide UAE banks with the internal capital generation capacity needed to support asset growth over the outlook period while maintaining their strong Tier 1 capital levels. The latter stood at around 16% as of June 2013, Moody’s estimates.

The ratings agency, likewise, underscored that the banking system will maintain its strong funding and liquidity profile. The cash-rich federal government and stronger Abu Dhabi-based GRIs will continue to remain a key and stable source of deposits, “limiting the system's dependence on confidence-sensitive market funding,” Moody’s noted.

The UAE banking system's liquid assets-to-total assets ratio of 30% as of December 2012 as well as a loans-to-deposit ratio of 93% (down from 108% in 2008), reflect the strength of the UAE banks' liquidity, according to Moody’s. Deposit growth will remain strong and banks will continue to focus on liquidity management ahead of the implementation of Basel III liquidity ratios, Moody’s said.