By Aleem Khan From Trinidad & Tobago Guardian

T&T banks are facing increasing competition from the capital markets as they offer an alternative to financing, Ernst & Young (EY) has said. Giving a Caribbean perspective in a September 1 summary of its report on banks in emerging markets, EY said: “In territories like T&T and Jamaica, there is also increasing competition from the capital markets, which offer an alternative route to financing needs.”

EY was addressing challenges confronting Caribbean banks.

“They also face increased competitive pressure, as all banks and new non-bank market entrants compete for the same segment of profitable business clients. Non-banking financial institutions offer higher returns to investors than traditional banks can offer. Banks risk being left to provide lower margin cash and risk management solutions and basic credit products, while regional and global institutions acquire the more complex and higher-value business,” EY said.

Additionally, while traditional banks continue to be the main choice for financial services to individuals, their positions continue to be eroded as most customers have several financial relationships, including relationships with non-bank financial institutions, EY said.

“The volatility of these markets, and the lack of investment opportunities, means that the wealthiest investors typically favour international wealth management solutions. Hence, they turn to institutions with a global reach, an international banking network and products that are managed by investment managers with strong track records. Global, regional and domestic banks are fighting for the growing pool of wealthy customers. At the other end of the spectrum, regional, domestic and specialist providers will compete for lower-value retail customers,” EY said.

Emerging markets have been the principal driver of global growth in the last five years and are expected to continue growing at twice the rate of developed markets around the world, EY said. “As a result, banks in emerging markets expect improved financial performance, despite facing challenges of rising costs, intensifying competition and tougher regulatory burdens,” the EY report said.

Investing for success

“Banking in emerging markets: Investing for success” is the name of the global report for which EY was giving a Caribbean perspective. The report is based on a survey of more than 50 financial services institutions and over 9,000 retail banking customers in emerging markets around the world.

The report studied 11 specific rapid growth markets (RGMs), grouped into three different stages of maturity according to factors such as GDP per capita: frontier (<US$2,000), transitional (US$2,000-US$8,000) and established (US$8,000-approximately US$20,000).

The report identified three challenges for banks looking to emerging markets as a growth opportunity: tougher regulation, increasing costs and intensifying competition. “While the Caribbean was not one of the focus RGMs in this report, many of the insights are applicable to our markets, such as Barbados and T&T,” Barbados-based EY managing partner Christopher Sambrano said in an email.

The Caribbean region cannot be easily categorised into one of the three RGM maturity stages, but it does display some of the characteristics and faces some of the same challenges as other established RGMs worldwide, as well as some unique issues, the EY report said.

The accounting firm said that Barbados and the Eastern Caribbean, for example, have “fallen under the shadow of monetary tightening as they see drastically decreased foreign capital inflows as a result of the economic slowdown over the past five years. These markets are particularly vulnerable as a result of both their current account deficits and rapid credit growth prior to the 2008 recession.”

Tapering has been particularly challenging for them as the continued economic slowdown puts pressure on borrowers, EY said. With no or little growth projected in 2014 and with some governments in the region pursuing increased taxation as one of their revenue growth strategies, banks in the region continue to face the risk of rising non-performing loans and credit losses, EY said.

“These banks must take the necessary measures to deal with existing loans if they go bad and ensure the loans they make in the future are either of higher quality or better adjusted for risk. They must be also be able to effectively manage broader risks too, as they seek to demonstrate sound governance. This downturn inhibits banks’ ability to invest and could negatively impact future plans for acquisitions or organic expansion,” EY said.

However, like banks in other established RGMs globally, EY said Caribbean banks also face the challenge of increased regulation as local regulators aim to be on par with global leading practices. “Banks in this region also struggle with rising operating costs,” EY said.

According to the global report, the average operating expense for the 50 leading emerging market banks has risen by 81 per cent over the past five years, from US$3.6 billion in 2009 to US$6.5 billion in 2013. As wages in these markets rise and where there is a shortage of capabilities, competition for talent has historically driven up pay rates, according to the report.

Operating banking infrastructure is also expensive. Total bank spend on information technology is expected to rise by 14 per cent during the next four years, with the most rapid growth being in emerging markets, EY said. The report predicts that banks’ funding and operating costs will continue to rise over the next five years.

“In the Caribbean, banks have been reexamining and restructuring their business models as their financial performance is inextricably linked to economic growth in the region,” the Caribbean perspective said. “Return on equity (ROE) has collapsed as margins have been crushed by the lack of loan growth, high credit losses and lower interest rates with greater capital needed to whether the storm.”

EY said while a number of the banks in the region have also been making investments in the areas above, a number of them are now going through a period of consolidation with a focus on efficiency in order to position themselves for longer term sustainability and profitable growth.

EY said: “The banking sector, our public sectors and businesses in the region as a whole are at a cross roads. How we respond to the current challenges we face will be critical to our long-term economic health and difficult choices will need to be made in our best long-term economic interest.”

For more on this story go to: http://www.guardian.co.tt/business/2014-09-07/ernst-young-banks-face-increasing-competition-capital-markets