Emerging market banks are resilient

A COMMON maxim among emerging market (EM) investors is that banks in South Korea are liked less, as their regulators are more conservative. This is the essence of the EM banks story in recent years: conservatism. In our view, the risk that EM banks will experience the deposit flight that select US regional banks and Credit Suisse witnessed is lower. This is due to divergent interest rate cycles, higher capital levels, and tighter regulation.

A fundamental difference between the current interest rate cycles in emerging and developed markets (DMs) is their divergence. Central banks in DMs are uniformly raising interest rates; however, there is no uniform tightening cycle in EMs. Policymakers in China have been cutting interest rates, and in Brazil, the next move is also expected to be a reduction in rates. Interest rates in EMs never fell to the lows observed in DMs, which ensured EM banks did not experience as dramatic a squeeze on net interest margins. EM banks also did not resort to buying large quantities of government bonds, as credit demand remained resilient. In combination with a high share of retail deposits in their liability mix, the risk of a liquidity squeeze similar to the one US regional banks and Credit Suisse experienced is lower.

The tight regulation of EM banks is reflected in the high levels of excess capital they carry on their balance sheets. Banks in China, India and Brazil carry between 3 and 6 percentage points of capital above local Tier 1 capital requirements, and hold more capital than the minimum required under Basel III regulations.