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21 Sep 2005

Financial Markets

Interest Rate Hikes since Mid-2005 ... Impact on Direction of Thai Banks' Net Interest Income


The Bank of Thailand raised its benchmark 14-day R/P rate by a larger than expected 50 basis points to 3.25 percent on September 7, 2005. Subsequently, large Thai commercial banks followed suit by lifting their 3-month fixed deposit rates for general customers on September 9 ? the first time in almost two years ? along with hikes in lending rates. From the end of June 2005 up to the present (September 21, 2005), Thai commercial banks have lifted long-term fixed deposit rates several times. So far, no large commercial banks have been seen adjusting their savings rates higher, yet. Aside from the hefty excess liquidity at several banks, some others with tighter liquidity may want to buy time against paying higher deposit rates on savings accounts (which represents about 45.2 percent of all deposits in the Thai banking system).

Kasikorn Research Center (KRC) has assessed the impact of these increases in deposit-lending rates and the key 14-day R/P rate since the end of June based on banks' financial assets and liabilities classified by the maturities of interest repricing, figuring on a consolidated basis with other factors being equal. From this assessment, it was found that commercial banks are likely to record a higher net interest income of some THB429 million during the first three months (from now), or in the final quarter of this year, equal to around THB1.7 billion on an annualized basis. This would represent an increase in net interest margin (NIM) of some 0.03 percent (3 basis points) over the 2.9 percent during the first six months of this year.

Even though around 71 percent of all deposits will reach maturity within three months after the rate increases, almost two-thirds of these deposits are savings accounts whose interest rates will remain intact. As a result, the impact on interest expenses from the recent rises in fixed deposit rates has been limited. Meanwhile, commercial banks will benefit from rising interest income given that hikes in loan rates come into effect immediately. These include floating interest rates and other conditions fixing interest paid that will reach maturity within the next three months, representing around 57 percent of all loans. Additionally, commercial banks also gain additional interest income from net lending in the short-term money market. Over the next three months, the interest rates on 78.3 percent of such assets (net of liability) will reach their maturity. Meanwhile, 12.8 percent of the total investments in securities are set to see higher returns during the first three months after the latest rate increases, following rising yields in the debt market in line with hikes in the BOT's 14-day R/P rate. However, if saving rates are lifted by 0.25 percent, the net interest income will immediately drop around THB1.1 billion in the first 3 months, while the interest margin would drop around 0.069 percent (6.9 basis points).

After the first three months, commercial banks will gradually recording higher interest expenses as maturities are gradually reached on various fixed deposits. In addition, previously, commercial banks had raised their long-term fixed deposit rates, such as those on 6-month to 2-year fixed deposits, rising between 0.75-1.25 percent which is many times higher than the lending rate increase at only 0.25 percent. Moreover, although higher yields in the bond market are positive to interest income from investments in securities, the role of yields from net investments in the short-term money market is expected to drop significantly along with the nature of this asset, which mostly have rather short tenors.

Kasikorn Research Center (KRC) estimates that between the fourth to the twelfth month, i.e., between Q1-Q3/2006 (9 months), the net interest income of Thai commercial banks may drop by around THB4.1 billion (representing a reduction of around THB1.4 billion per quarter), per the interest margin which is expected to narrow around 0.09 percent (9 basis points). Moreover, if the impact is estimated only due to the change in interest rates for income and interest expense ? which only involve loans and deposits ? it will be revealed that within 1 year after interest rates are lifted, the net interest income of Thai commercial banks may drop further by around THB1.3 billion.

However, increasing net burdens due to the latest interest rate hikes are still considered not high compared to the net interest income of Thai commercial banks, at THB161 billion in 2004, or the average THB40 billion earned per quarter. Moreover, it is expected that the adjustments of Thai commercial banks, at present, such as expedited increases in the ratio of loans to deposits by extending new loans, lifting lending rates, and maintaining net investments in the short-term money market will stabilize benefits from the interest rate hikes in the short-term money market, whose returns are still higher than the average cost of deposits, and this will help alleviate the forthcoming impact of interest rate hikes.

Financial Markets