Financial institutions throughout the Asia Pacific region may need to continue building up their loan loss reserves in the coming months as the Iran conflict creates economic uncertainty in an area heavily dependent on Middle Eastern oil, according to industry analysts.
Banking institutions in nations such as Australia, Singapore, and India have indicated potential credit impacts reaching hundreds of millions of dollars during their March quarter financial reports, citing indirect costs from the ongoing conflict.
These increasing credit loss reserves occur while financial institutions also confront prospects of sustained higher oil costs, disruptions to supply chains and trade, climbing interest rates, and deteriorating corporate financial health.
Although higher loss reserves wouldn’t create significant short-term damage given robust capital cushions, analysts caution that extended energy market disruptions could lead to real credit losses and force banks to strengthen their balance sheets.
“More Asian banks have increased provisions and forward-looking overlays to reflect the risks from the Iran war,” said Gary Ng, senior economist for Asia Pacific at Natixis CIB, though as yet there has not been a wave of credit defaults.
“The bottom line is that even if the war ends soon, energy prices may remain elevated due to supply destruction. Interest rates may not fall, which can hurt corporate repayment capacity and pressure credit demand,” he said.
Current credit loss provision amounts at Asia Pacific banks remain significantly smaller compared to the charges they absorbed during the COVID-induced economic disruptions five years ago.
Among Australia’s top four banking institutions, the combined A$957 million ($694.40 million) in reserves allocated for war-related risks represents 80% less than the buffer established in 2020. For eight major Asian banks, excluding China and Japan, the amount is 70% lower at $2.8 billion, based on calculations.
However, an increase in actual credit losses among Asian banks remains possible, Ng noted, though the scale will depend on how long the war continues, which has now entered its 11th week.
The conflict’s economic impact continues growing throughout the region. The Asian Development Bank reduced its growth projection for developing Asia and the Pacific to 4.7% this year and 4.8% in 2027, down from 5.1% for both years in previous forecasts.
The regional banking sector’s financial performance is expected to decline next quarter due to higher oil prices, weakening currencies, and rising bond yields, according to Interactive Brokers senior economist José Torres.
Commonwealth Bank of Australia, the country’s largest lender, lost nearly $22 billion in market value on Wednesday after allocating additional cash to prepare for risks connected to the Middle East conflict.
During the past two weeks, Australia’s three other major banks have increased provisioning by A$757 million ($549.13 million) to cover potential future bad debts resulting from the war.
Australian banks’ current provisions might prove insufficient if the turmoil creates credit market disruption, according to investment bank Jarden’s head of financial research Matthew Wilson.
“It’s all ahead of us. Banks are late cycle and we’ll see the real impact on the domestic economy via industrials and cyclicals in the next 6 months,” Wilson said, adding it was too early to tell if a credit market disruption was on the cards.
In Singapore, while all three major lenders maintain limited direct exposure to the Middle East with the region representing less than 3% of their total lending, No.2 lender OCBC allocated S$216 million ($170 million) in provisions.
United Overseas Bank CEO Wee Ee Cheong stated last week the bank’s direct exposure to the Middle East was “insignificant”, but warned that second-order effects could raise costs for small and medium-sized enterprise customers.
London-based HSBC and Standard Chartered, which generate most of their revenues in Asia, recorded $300 million and $190 million charges, respectively, during the March quarter citing caution.
“We think further provisions (at HSBC and StanChart) are not impossible, given the fluid nature of the ongoing conflicts,” said Kathy Chan, equity analyst at Morningstar, adding the two banks have been quite prudent in assessing risks.
In India, approximately half a dozen lenders, including HDFC Bank, Axis Bank, and Blackstone-backed Federal Bank, have established provision buffers, though they haven’t observed any decline in asset quality yet.
Australian bank stocks have experienced the largest decline in the Asian banking sector, with National Australia Bank falling 21.2% and Westpac dropping 12.4% since the U.S. and Israel’s war on Iran started on Feb. 28.
“The provisioning that has currently been made represents a conservative estimate of the effects to date,” said Angus Gluskie, managing director at Whitefield, which owns Australia’s big 4 bank stocks and manages A$1.5 billion in assets.
“If the issue can be quickly solved the provisions may be partly wound back. If the issue persists, the banks may need to provide more.”
