Global Bank Equity Specialist, Creative Portfolios

Paul Hollingworth

Global Bank Equity Specialist

Creative Portfolios

Equity Bottom-Up

National Bank of Bahrain BSC / Equity Bottom-Up

Shares in <a href="https://www.smartkarma.com/entities/national-bank-of-bahrain-bsc" target="_blank" data-smartkarma-citation="entities:28941:1" rel="noopener">National Bank of Bahrain BSC (NBB BI)</a> have suffered a "blip" of late in reaction to global risk-off forces and because of the volatility in the price of oil. We believe that logically shares should trade a lot lower.With a sky-high oil breakeven, Bahrain has dire finances: high government debt, low reserves, and elevated financing requirements. Of course, Saudi Arabia can always come riding to the rescue but by then shares in NBB could be a lot lower. Holding Bahrain assets is a moral hazard trade if ever there was one.The bank seems to be faring well. ROA is high, Liquidity and Capitalisation are extremely sound, Credit Costs are low, though problem loans are a thorny issue. Our issue is that NBB is expensive and fundamental trends are lackluster.In terms of valuation, franchise value stands at 48% vs a regional median of 14%. In this day and age, you can pick up bank shares for &lt;2% and even "good" banks at &lt;10%. P/B is elevated at 1.9x versus a regional median of 0.77x: ROE is higher than peers but you pay for it. Total Return Ratio stands at 0.82x versus a regional median of 1.25x.Who would consider paying a FV of 48% (top dollar) for a bank with a NPL ratio of around 8% in a risky macro environment, with a 480bps CDS, a "Junk" rating, even taking into account a potential MBS put? The counter argument would be to focus on the sound capitalisation and ample liquidity of the bank, aforementioned moral hazard, which would point to minimal risk. Regarding risk, we actually also think about market risk as the securities portfolio represents 47% of Assets vs 37% for credit: this looks elevated, especially given that almost a third of the securities relate to debt guaranteed by national or supranational entities. The Bank says its "profile includes significant exposures to low risk asset classes such as sovereigns, public sector undertakings and prime banks and financial institutions" and a "major part of the debt securities comprised Government of Bahrain bonds and Islamic sukuk". This is a GCC Balance Sheet. In fact, 47% of the Asset base relates to the government of Bahrain (debt instruments, treasury bills, and some modest advances) while 13% relates to banks/financial entities (placements and loans). "Counterparty A" in the report and accounts looks very like the government of Bahrain with exposures amounting to 2.6x SH. Funds.The PH Score™ stands at 5.4 - below the regional median of 6. <div class="content-highlight">The PH Score™ is a fundamental momentum-quantamental score that scores banks according to changes in value-quality. The Score encompasses Profitability, Operating Efficiency, Liquidity, Capital, Asset Quality, and Coverage as well as a valuation variable. Scores lie between 0 and 10, with higher scores representing more positive signs. The PH Score™ was back tested over 2007-17 for global banks and conclusively shows progressively higher returns across quintiles ranked by Score. </div>

Shares in National Bank of Bahrain BSC (NBB BI) have suffered a "blip" of late in reaction to global risk-off forces and because of the volatility in the price of oil. We believe that logically shares should trade a lot lower.With a sky-high oil breakeven, Bahrain has dire finances: high government debt, low reserves, and elevated financing requirements. Of course, Saudi Arabia can always come riding to the rescue but by then shares in NBB could be a lot lower. Holding Bahrain assets is a moral hazard trade if ever there was one.The bank seems to be faring well. ROA is high, Liquidity and Capitalisation are extremely sound, Credit Costs are low, though problem loans are a thorny issue. Our issue is that NBB is expensive and fundamental trends are lackluster.In terms of valuation, franchise value stands at 48% vs a regional median of 14%. In this day and age, you can pick up bank shares for &lt;2% and even "good" banks at &lt;10%. P/B is elevated at 1.9x versus a regional median of 0.77x: ROE is higher than peers but you pay for it. Total Return Ratio stands at 0.82x versus a regional median of 1.25x.Who would consider paying a FV of 48% (top dollar) for a bank with a NPL ratio of around 8% in a risky macro environment, with a 480bps CDS, a "Junk" rating, even taking into account a potential MBS put? The counter argument would be to focus on the sound capitalisation and ample liquidity of the bank, aforementioned moral hazard, which would point to minimal risk. Regarding risk, we actually also think about market risk as the securities portfolio represents 47% of Assets vs 37% for credit: this looks elevated, especially given that almost a third of the securities relate to debt guaranteed by national or supranational entities. The Bank says its "profile includes significant exposures to low risk asset classes such as sovereigns, public sector undertakings and prime banks and financial institutions" and a "major part of the debt securities comprised Government of Bahrain bonds and Islamic sukuk". This is a GCC Balance Sheet. In fact, 47% of the Asset base relates to the government of Bahrain (debt instruments, treasury bills, and some modest advances) while 13% relates to banks/financial entities (placements and loans). "Counterparty A" in the report and accounts looks very like the government of Bahrain with exposures amounting to 2.6x SH. Funds.The PH Score™ stands at 5.4 - below the regional median of 6. The PH Score™ is a fundamental momentum-quantamental score that scores banks according to changes in value-quality. The Score encompasses Profitability, Operating Efficiency, Liquidity, Capital, Asset Quality, and Coverage as well as a valuation variable. Scores lie between 0 and 10, with higher scores representing more positive signs. The PH Score™ was back tested over 2007-17 for global banks and conclusively shows progressively higher returns across quintiles ranked by Score. 

National Bank of Bahrain: Macro Vulnerability and Moral Hazard