Islamic banks resilient amid turbulence

Published on 29 Mar 2022.

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RAM Ratings expects Malaysia’s Islamic banking industry to stay resilient despite lingering risks from the pandemic. We have maintained a stable outlook on the industry in line with our outlook on the overall domestic banking system. Our main expectations for the industry in 2022, as outlined in our latest commentary, Islamic Banking Insight: Staying the Course, include the following:

  • Islamic financing growth will stay healthy at 10% in 2022 (2021: +8.2%), riding on better economic conditions. 
  • Delinquencies are likely to creep up in the months ahead when financing relief measures expire in 1H 2022. The industry’s gross impaired financing (GIF) ratio could reach 2% by end-2022 (end-December 2021: 1.2%), which is still manageable. 
  • Profitability is seen to be flat this year after a sharp rebound in 2021. Islamic banks’ net financing margin (NFM) could stay broadly stable while provisioning is expected to moderate but remain higher than pre-pandemic levels. The one-off Cukai Makmur (prosperity tax) however will weigh on Islamic banks’ net earnings for 2022.
  • Funding and liquidity positions will stay sound. 
  • Capitalisation is anticipated to remain sturdy, providing sufficient buffers for loss absorption.

Islamic banks continued to lead financing growth of the banking system with credit expansion of 8.2% in 2021 (2020: +8.1%) which outpaced the increase in conventional loans (2021: +2.5%). Islamic financing (including that of development financial institutions) now constitutes 41% of total banking sector’s loans. Amid economic recovery, Islamic financing is projected to rise by a higher 10% this year.

The Islamic banking industry ended 2021 with a still-benign GIF ratio of 1.2% (three-year average: 1.4%), thanks to forbearance measures and proactive collection efforts. “As the bulk of government-led relief schemes expire in 1H 2022, impairments will begin to surface but credit weakening will be manageable. The industry’s enlarged provisioning reserves and strong capitalisation (common equity tier-1 capital ratio of 14.3% as at end-December 2021) will give it sufficient headroom to withstand lingering credit uncertainties,” highlights Sophia Lee, RAM Ratings’ Co-Head of Financial Institution Ratings.

Islamic banks’ earnings rebounded in 2021. The return on risk-weighted assets jumped to an annualised 2.2% in 9M 2021 (2020: 1.5%) owing to a much wider NFM and good cost controls, notwithstanding more modest investment income. “As the economy gradually recovers, we expect the industry’s profitability to be sustained this year. Lower provisioning expenses will be balanced by the one-off Cukai Makmur,” said Wong Yin Ching, RAM’s Co-Head of Financial Institution Ratings. Margins will likely hover around current levels as a potential 25-bp rate hike in 2H 2022 may be offset by a moderation in current and savings account deposits growth. The Russian-Ukraine conflict may also affect the overall growth trajectory.

Customer funding of Islamic banks (including deposits and customer investment accounts) grew at a faster pace of 9.2% in 2021 (2020: +7.1%). The financing repayment holiday and precautionary cash holdings by households and businesses amid continued uncertainties lifted the industry’s deposits. Customer investment accounts also posted strong growth, mainly contributed by a few banks. Islamic banks that are part of banking groups are able to derive parental funding support in the form of restricted profit-sharing investment account placements. We expect liquidity conditions in the Islamic banking industry to remain sound. The industry’s liquidity coverage ratio was 146% as at end-December 2021. 

We believe the industry is poised to continue leading efforts towards a wider adoption of value-based intermediation (VBI). An increased focus on Islamic sustainable finance has created new opportunities, enabling banks to build on their existing value-based practices and solutions to strengthen the impact of VBI. This puts Islamic banks in a good position to meet the requirements of Bank Negara Malaysia’s (BNM) Climate Risk Management and Scenario Analysis – effective 1 June 2022. Meanwhile, BNM will likely award at least one digital bank licence to an applicant with strong Islamic finance value proposition, affirming Malaysia’s role as an established global Islamic finance leader. We do not however see digital banks posing a significant threat to domestic Islamic banking or the banking sector in general in the near to medium term.

RAM’s Islamic Banking Insight is available at www.ram.com.my.


Analytical contacts
Chow Kah Mun
(603) 3385 2501

Wong Yin Ching, CFA
(603) 3385 2555

Sophia Lee
(603) 3385 2619


About RAM Rating Services Berhad (RAM Ratings)

Established in 1990, RAM Ratings is a leading credit rating agency registered under the Securities Commission’s Guidelines on Registration of Credit Rating Agencies, 2011. In addition to the provision of credit ratings for corporate bonds and sukuk and their issuers, RAM Ratings also provides research and publications on Islamic finance, fixed income and macro-economic and industry analysis as well as data analytics relating to credit risk, counterparty assessments and other related domains. 


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Islamic Banking Insight 2022 29-Mar-2022 Banking Insight View PDF