RAM Ratings Affirms A2/Stable/P1 Rating for Bank Muamalat

RAM Ratings has reaffirmed Bank Muamalat Malaysia Berhad’s (Bank Muamalat) financial institution ratings (FIRs) at A2/Stable/P1. Additionally, the rating agency has maintained the A3/Stable rating for the bank’s RM1 billion Subordinated Sukuk Murabahah Programme (2016/2036). The difference between the long-term FIR and the rating of the subordinated sukuk reflects the sukuk’s lower priority compared to senior unsecured obligations.

Strengths and Challenges Facing Bank Muamalat

Bank Muamalat stands out in Malaysia’s Islamic finance industry, which is on a growth trajectory. According to LSEG’s Islamic Finance Development Report, the sector is anticipated to reach approximately $6.7 trillion by 2027. This makes the role of blockchain technology crucial in overcoming barriers and unlocking potential growth in Islamic finance. Blockchain aligns well with Shariah principles and has the potential to revolutionize the sector.

Despite its solid asset base, Bank Muamalat faces several challenges. The bank’s significant asset quality is supported by personal financing (PF) linked to salary transfers and home financing backed by government guarantees, comprising around 32% of total financing. However, recent vigorous financing growth has put pressure on the bank’s capital adequacy and profitability.

Anticipated IPO and Its Implications

An initial public offering (IPO) planned for late 2025 aims to reduce the shareholding of DRB-HICOM Berhad, the bank’s major stakeholder. Post-listing, the bank’s capitalization levels are expected to improve. Although specific details of the IPO are yet to be finalized, initial assessments indicate that it should not negatively impact Bank Muamalat’s ratings. RAM Ratings will continue to monitor developments and provide updates as more information becomes available.

Impaired Financing and Capitalization Metrics

As of March 2024, Bank Muamalat’s gross impaired financing (GIF) ratio increased to 1.1%, up from 0.8% at the end of December 2022. Despite this increase, the ratio remains below the banking sector average of 1.6%. The rise in the GIF ratio is primarily due to home financing extended to self-employed customers. Given the bank’s rapidly growing financing portfolio, a further increase in the GIF ratio is likely, but it is expected to be manageable. New home financing, largely government-guaranteed, will help mitigate credit losses.

The coverage ratio for GIF, excluding regulatory reserves, decreased to 78.3% as of March 2024 from 125.5% at the end of December 2022. This decline is due to a larger GIF base but remains well-collateralized. The bank is working to restore its GIF coverage and anticipates a rise in its credit cost ratio from the low 13 basis points reported in FY Dec 2023.

Profitability and Future Outlook

In FY Dec 2023, Bank Muamalat experienced a 4% decline in profit before tax, totaling RM296 million. The bank’s high-cost structure, with a cost-to-income ratio exceeding 57% over the past five years, and margin compression (-47 basis points to 2.11%) have weighed on profitability. However, improved trading and fee income, along with reduced impairment charges, have partially offset these impacts. The bank reported a lower pre-tax return on risk-weighted assets and return on assets of 1.3% and 0.8%, respectively, compared to 1.5% and 1.0% in FY Dec 2022.

Looking ahead, earnings may continue to be pressured as margins are expected to remain stable. Strategic measures, including optimizing risk-weighted asset calculations and the forthcoming IPO, are anticipated to support improved capitalization ratios in the near to medium term.

Innovations and Regulatory Landscape in Islamic Finance

The integration of blockchain technology into Bank Muamalat’s operations signifies a major shift in Islamic finance. Blockchain’s capabilities for transparency, efficiency, and Shariah compliance align with the principles of Islamic finance, which emphasize clarity and ethical conduct. The broader adoption of blockchain in Islamic finance is part of a growing trend, with the UAE leading in regulatory advancements for digital assets.

The UAE’s regulatory framework, overseen by bodies such as the Securities and Commodities Authority (SCA) and the UAE Central Bank, serves as a model for integrating blockchain technology. Additionally, jurisdictions like the Dubai International Financial Center (DIFC), Abu Dhabi Global Market (ADGM), and the Virtual Assets Regulatory Authority (VARA) contribute to a dynamic regulatory environment that supports technological innovation.

Strategic Integration and Collaboration for Future Growth

For Bank Muamalat and other Islamic finance institutions to fully leverage blockchain technology, comprehensive adoption strategies are essential. These strategies should cover technology integration, Shariah compliance, regulatory adherence, and risk management. Collaboration with Shariah scholars and financial experts is crucial to ensure that blockchain initiatives align with Islamic ethical and legal standards.

Bank Muamalat’s efforts to integrate blockchain technology and its strategic measures to address capitalization and risk management challenges reflect its commitment to overcoming barriers and unlocking growth in the Islamic finance sector. As the bank prepares for future developments, including its IPO and blockchain integration, it is well-positioned to navigate the complexities of the Islamic finance industry and drive sustainable growth.

The reaffirmation of Bank Muamalat’s ratings and its proactive approach to addressing challenges through innovation and strategic planning highlight its resilience and adaptability. With ongoing efforts to optimize its operations and embrace technological advancements, Bank Muamalat is set to play a leading role in the evolving landscape of Islamic finance. The bank’s focus on overcoming barriers and unlocking growth potential underscores its commitment to driving innovation and achieving long-term success in the sector.