Financial Stability Report

Introduction

Financial stability is defined as the stability which is not effected by the shocks of the economics and the institute remains to functional in a way it does. The institution is very much sufficient of doing its basic functions that may include risk management and intermediation of funds. The term financial stability was first defined at the end of 90s and its importance was not identified any time before 2007 when the financial stability techniques were used to tackle the economic crisis. (financial-stability, n.d.)

The financial stability is an instrument used by a country to know its financial health or the financial health of a sector. These sectors help one to understand a country’ public opinion as well. The financial stability in case of banking is called as Banking stability. Therefore banking stability can be simply defined as the state of a bank in which it doesn’t get effected by the external factors. (financial-stability, n.d.)

The bank which has attained the financial stability is the one people are interested to invest in. It is important to know that the stability is just a temporary phase. There are several factors on which the banking stability depend. These factors are called indicators. The banking sectors at level one looks like just another sector, but when we dig deeper one will notice that the banking sector is vulnerable and unique industry. (financial-stability, n.d.)

The indicators are basically of two types i.e. Governance indicators and bank specific indicators. The bank specific indicators can be defined as the factors which are internal factors of the bank. They include:

1. liquid assets/deposits & short-term funding: The ratio of a bank’s total liquid assets or the assets which can be easily exchanged for the cash to the short term funding of the bank including the total deposits. The liquid assets of the bank include trading securities, cash, income of bank from loans, dues to other bank, advance from other banks etc. The deposits are the deposits of the customers in terms of the cash in their accounts. Lastly, short term funding can be defined as CDs, money market instruments, and other instruments.(journals, n.d.)
2. Loan loss provisions: Loan loss provisions are the amount of money or the expense which are set aside in order to protect the banks from losing money in case of the bad loans, renegotiated terms of loans, customer defaults etc. These money make up for the lost revenue of the bank.  (Goetz, 2016)
3. net income: Net income of a bank is simply defined as the total sum of all its revenue sources, which include interests from bank, security deposits, customer deposit etc.(financial-stability, n.d.)
4. Interest rates: The banks keep a rate of interest on the amount of loan they provide. Higher the rate of interest, higher the amount of money gained by the bank. (Edward_Altman_Z_Score_for_Financial_Analysis, n.d.)

There are several other factors but in this paper we will only focus on first three factors. In this paper we have selected the first three factors as these factors have negative or low correlation between each other. (Goetz, 2016)

The Governance indicators are the ones which are external factors which effect the stability of the bank, they are controlled by the government. They include the following factors:

1. Inflation: Inflation is defined as the rise in price of the products in the market. The inflation stays for some time in the market and depends on the government’s present and future policies.(defining-financial-stability, n.d.)
2. Overall economic productivity and growth: The overall development of the countries revenue, the gross domestic product and per capita of the country. If all these factors are doing good, then so will the country and thus the banks in that country have financial stability. (financial-stability, n.d.)
3. Housing sales: Increase in the valuation of the property or the houses increase the changes of loan repayment and reduction in number of defaulters. (Goodhart, 2007)
4. Control of corruption: The amount of corruption in a particular country determines the number of bank frauds in the country and accordingly we can determine the stability of the bank. (Goetz, 2016)
5. Rule of law: If the law is strict in a country then the number of defaulter in a country will be less and thus the stability of the bank will be more and vice versa. (Goetz, 2016)
6. Voice and accountability: This determines the perception of the citizens of the country. This includes the freedom of association, freedom of expression, and a free media.(Goetz, 2016)

There are various other factors as well, but we noticed that there haven’t been more consideration on the last three factors. Hence we have performed our research and draw conclusion based on the these three factors.    

It is important to determine the stability of a bank in order to know about investment opportunities in that bank and to know if that bank is performing well. It is significant as it mirrors a sound money related framework, which thusly is significant as it fortifies trust in the framework and forestalls wonders, for example, a sudden spike in demand for banks, which can destabilize an economy.

The two major objectives of this study are as follows:

1. To determine the stability of a bank on the basis of the factors, short-term funding liquid assets/deposits, net income, Loan loss provisions, Rule of law, Control of corruption and Voice and accountability.
2. To calculate the Z-score ratio and determine the importance of each factor.

We have selected the GCC country for our research, we will only consider the values of the factors based on the data obtained about these countries. We will draw results and provide conclusions only on the basis of these countries.  (Goetz, 2016)

Literature review

An article by the faculty of Universitatea Alexandru Ioan Cuza and a faculty from Bucharest Academy of Economic Studies in their research paper have discussed various factors by which the stability of CreditCoop is determined. The research has focused on analyzing the stability of a bank based on their various subsidiaries in different regions. (Kawamoto*)

The major focus was on determining the determinants which are most important for the subsidiary's stability, then they have determined which subsidiary is most stable/unstable and profitable/unprofitable regions. (Kawamoto*)

A student of oxford university in an article has discussed about the material hypothetical system for examining the transmission component of fiscal approach and furthermore the suitable institutional structure for the Central Bank to send its large scale monetary strategies. There is no such accord on the suitable hypothetical system for the investigation of money related strength. (Goodhart, 2007)

In reality some would guarantee that there is no appropriate hypothetical system for this  capacity in being by any stretch of the imagination. In absence of appropriate system the researchers have used approaches which have been used in the past. (Goodhart, 2007)

An article from Goethe University, shows the relation between competition in the market and the stability of the banks. The article focuses on how various factors lowers the barriers of entry of various banks in the market, this in turn increases the number of banks in the market. Due to increase in the number of banks in a open market, there is an increase in competition. Which leads to increase in stability of the banks. (Goetz, 2016)

The researchers also found that increase in competition also leads to reduction of the non-performing loans which leads to increases the profitability of bank. Due to increase in the revenue of the banks their stability also increases.  (Goetz, 2016)

The authors in Annual Workshop of the Asian Research Network submitted a paper on the relation between the risk taking of banks and the financial stability of the banks. The authors targeted the banks based in Japan providing low interest loans to the small and medium sized enterprises of the Japan. The researchers found that the banks which were offering loans at the low rate of interest had low financial stability in comparison to the banks which had high rate of interest. (Kawamoto*)

An article by Michael adusei from the university of science and technology in his paper has discussed about the relation between the size of the bank, risk in funding and the stability of the bank. The author found that the risk of finances positively affect the stability of the bank, The size of the bank and its stability also has positive relationship. (Kawamoto*)

There are various significant repercussions for the present discussion on whether to oblige bank size to protect the budgetary framework from future emergency. The positive connection between financing danger and bank dependability likewise has significant ramifications for the present discussion on subsidizing of retail banks. (journals, n.d.)

A scientist from the university of Waikato in his research has discussed about the use of Z-factor in determining the stability of a few companies. Researchers of considered 20 companies which were shut due to economic loss. The researchers understood that using Z factor one can determine the stability of a company and revive it in time. (Edward_Altman_Z_Score_for_Financial_Analysis, n.d.)

A similar research was conducted by the scientist of Kuwait. The researcher observed various companies listed in the Kuwait stock exchange and noted that the companies can predict their bankruptcy far before when they are actually bankrupt by using the concepts of bankruptcy. Hence this way they the Z-score can be used. (journals, n.d.)

The investigation powers on utilizing multivariate model of examination for the instance of twelve huge accounts which were alluded to National Company Law Tribunal for indebtedness procedures. Corporate disappointments influence all partners. It's likewise a reality that organizations are rarely protected from insolvency.

Data and methodology

The bank stability has been determined by focusing on the six factors which have been mentioned earlier. The data is collected only for the banks which belong to the GCC countries. There are several banks of which the data has been collected. The data is collected both bank wise and year wise. (Kawamoto*)

The data will be used to determine the Z-score of each and every entity. As mentioned earlier the Z-score has been proven efficient in determining the financial stability of a company or an organization. Hence we have based on several other researches have decided Z-score to consider as the methodology to determine the stability. (Edward_Altman_Z_Score_for_Financial_Analysis, n.d.)

The Z-score was first used by the Edward Altman in his research hence it is commonly known as the Altman’s Z-score. The Altman’s Z-score can be defined as the credit-strength of the a company which has been listed publicly. The test mostly focuses on the chances of a company getting bankrupt in near future. (Edward_Altman_Z_Score_for_Financial_Analysis, n.d.)

The Z-score can be defined as the times the standard deviation an entity is  deviated to the mean of the data. For instance a Z-score of one can be defined as the entity is one times standard deviation deviated to the mean of the data. Similarly, a Z-score of two can be defined as the entity is two times standard deviation deviated to the mean of the data.

Z scores are often useful when we plan to compare various data points from different sets of data. It is often used by various investors and researchers understand a company’s potential to succeed in the current market trend. (Edward_Altman_Z_Score_for_Financial_Analysis, n.d.)

The Altman’s Z-score focuses on finding various business ratios and then summing them according to their weights. The values of the final Z-score can be determined by the following formulae:

Z-Score =  1.4B+0.6D +1.2A+3.3C+1.0E

Where

• A is working capital : total assets
• B is retained earnings : total assets
• C is total earnings before interest and tax: total assets
• D is market value of equity: total liabilities
• E is f sales : total assets

In order to calculate A, We will have to calculate the total working capital of the company and then divide it with the total assets of that company. This way A is determined.

In order to calculate B, We will have to the total earning of the company and then divide the calculated value with the company’s total assets. This way one can determine B.

In order to calculate C, we will have to determine the total earning of the company before deduction of the interests paid for the loan and tax then divide the calculated values with the total assets of the company.

In order to calculate D, we will have to actual value of the company’s equity according to the value offered for the same in the market and then divide the value to the total liabilities of the company.

In order to calculate E, we will have to calculate the total sales of the company and then divide it to the total assets of that company.

Understanding the values

The Z-score can be divided in to three categories:

1. Z-score < 1.8 : If the Z-score is determined to a number which is less than 1.8 then we can say that the company will declare bankruptcy anytime in near future.
2. Z-score >1.8 and <3: The value of Z-score between 1.8 and 3 means the company is not doing well and may declare bankruptcy in future, but there are chances that company might work on increasing its revenue and get back on the track.
3. Z-score >3: The company is doing really great and it is not near bankruptcy any time in future.

Speculators can utilize Altman Z-scores to decide if they should purchase or sell a stock on the off chance that they're worried about the organization's hidden money related quality. Financial specialists may consider buying a stock if its Altman Z-Score esteem is more like 3 and selling or shorting a stock if the worth is nearer to 1.8. (Edward_Altman_Z_Score_for_Financial_Analysis, n.d.)

Result and analysis

The data has been analyzed and sorted in two types. Firstly, we will analyze the data of three banks in one particular year. Then we will analyze several years for one particular banks.

Let us first consider the First Abu Dhabi Bank

Table 1 First Abu Dhabi Bank

We have calculated the z-score and six factors of the considerations which we have decided earlier. Let us discuss each factors one by one:

1. Z-score: The value of Z score is recorded more than 3 every year since 2011. This means the financial stability of the bank is considerably high.
2. Liquid assets / Deposits & short-term funding: The ratio of liquid assets to the deposits and short-term funding is around 50. This means the bank has its assets more than 50 times the deposits and funding, which means the bank is pretty stable.
3. Loan provisions: The bank has a high amount of loan loss provision that means the bank will not be bankrupt due to bank frauds. Hence we can say that the bank has good stability.
4. Net income: The bank has relatively high income which clearly shows that the bank has the high stability.
5. Control of corruption : The value is higher than 1. Which shows the good control over the corruption.
6. Rule of law: The rule of law value is more than 0.5 hence the rule of law are quite strict.
7. Voice and accountability values are in negative hence having positive effect.(Edward_Altman_Z_Score_for_Financial_Analysis, n.d.)

Table 2 Emirates NBD Bank PJSC

Results:

1. Z-score: The value of Z score is recorded more than 3 every year since 2011. This means the financial stability of the bank is considerably high.
2. Liquid assets / Deposits & short-term funding: The ratio of liquid assets to the deposits and short-term funding is around 20. This means the bank has its assets more than 20 times the deposits and funding, which means the bank is fairly stable.
3. Loan loss provision: The bank has a high measure of advance misfortune arrangement that implies the bank won't be bankrupt because of bank fakes. Subsequently we can say that the bank has great soundness.
4. Net salary: The bank has moderately high pay which unmistakably shows that the bank has the high steadiness.
5. Control of defilement : The worth is higher than 1. Which shows the great power over the debasement.
6. Rule of law: The standard of law esteem is more than 0.5 subsequently the standard of law are very exacting.
7. Voice and responsibility esteems are in negative thus having constructive outcome.(Goetz, 2016)

Table 3 Abu Dhabi Commercial Bank

Results:

1. Z-score: The estimation of Z score is recorded in excess of 3 consistently since 2011. This implies the budgetary solidness of the bank is significantly high.
2. Liquid resources/Deposits and transient financing: The proportion of fluid advantages for the stores and momentary subsidizing is around 30. This implies the bank has its benefits in excess of multiple times the stores and financing, which implies the bank is genuinely steady.
3. Loan misfortune arrangement: The bank has a high proportion of advance hardship course of action that suggests the bank won't be bankrupt as a result of bank fakes. Hence we can say that the bank has extraordinary adequacy.
4. Net income: The bank has tolerably significant compensation which indisputably shows that the bank has the high consistent quality.
5. Control of contamination : The value is higher than 1. Which shows the incredible control over the degradation.
6. Rule of law: The standard of law regard is more than 0.5 in this manner the standard of law are extremely demanding.
7. Voice and obligation regards are in negative consequently having useful result.(Edward_Altman_Z_Score_for_Financial_Analysis, n.d.)

Table 4 Financial analysis of 2017

Z-score: most of the banks have a good Z-score which is far greater than 3 so they are financially stable. The bank Commercial Bank International P.S.C. has Z-score very close to zero hence it can get bankrupt if not taken proper care.

Liquid resources/Deposits and transient financing: The proportion of fluid advantages for the stores and momentary subsidizing is above 30. This implies the banks have its benefits in excess of multiple times the stores and financing, which implies the bank is genuinely steady.

Loan loss provision: The bank has a high proportion of advance hardship course of action that suggests the bank won't be bankrupt as a result of bank frauds. The banks HSBC Bank Middle East Limited,  Commercial Bank of Dubai P.S.C. , National Bank of Fujairah PJSC and Commercial Bank International P.S.C. Have relatively lower loan loss provision hence much likely to not tackle when hit by a bank fraud.

Net income: The banks Mashreqbank PSC, HSBC Bank Middle East Limited, Commercial Bank of Dubai P.S.C., National Bank of Fujairah PJSC, Bank of Sharjah, Commercial Bank International P.S.C., National Bank of Umm Al-Qaiwain PSC, Dubai Financial MarketThe bank has low income hence they are have high risk of having loss. Rest banks has tolerably significant compensation which indisputably shows that the bank has the high consistent quality.

Control of contamination : The most of the bank is higher than 1. Which shows the incredible control over the degradation.

Rule of law: All the banks have rule of law more than 0.5 in this manner the standard of law are extremely demanding.

All banks have Voice and obligation regards are in negative consequently having useful result. (Edward_Altman_Z_Score_for_Financial_Analysis, n.d.)

Table 5 Financial analysis of 2018

Z-score: the majority of the banks have a decent Z-score which is far more prominent than 3 so they are monetarily steady. The bank Commercial Bank International P.S.C. has Z-score extremely near zero henceforth it can get bankrupt if not taken appropriate consideration.

Fluid assets/Deposits and transient financing: The extent of liquid favorable circumstances for the stores and transitory sponsoring is over 30. This infers the banks have its advantages in abundance of various occasions the stores and financing, which suggests the bank is really consistent.

Credit misfortune arrangement: The bank has a high extent of advance hardship game-plan that recommends the bank won't be bankrupt because of bank fakes. The banks HSBC Bank Middle East Limited, Commercial Bank of Dubai P.S.C. , National Bank of Fujairah PJSC and Commercial Bank International P.S.C. Have generally lower advance misfortune arrangement thus much prone to not handle when hit by a bank extortion.

Overall gain: The banks Mashreqbank PSC, HSBC Bank Middle East Limited, Commercial Bank of Dubai P.S.C., National Bank of Fujairah PJSC, Bank of Sharjah, Commercial Bank International P.S.C., National Bank of Umm Al-Qaiwain PSC, Dubai Financial MarketThe bank has low pay henceforth they are have high danger of having misfortune. Rest banks has passably critical pay which undeniably shows that the bank has the high predictable quality.

Control of tainting : the vast majority of the bank is higher than 1. Which shows the mind boggling command over the debasement.

Rule of law: All the banks have rule of law more than 0.5 right now standard of law are amazingly requesting.

All banks have Voice and commitment respects are in negative subsequently having helpful outcome. (Edward_Altman_Z_Score_for_Financial_Analysis, n.d.)

Summary and conclusion

Financial stability is characterized as the dependability which isn't affected by the stuns of the financial matters and the foundation stays to useful in a manner it does. The organization is particularly adequate of doing its essential capacities that may incorporate hazard the executives and intermediation of assets. The term budgetary steadiness was first characterized toward the finish of 90s and its significance was not recognized whenever before 2007 when the monetary soundness systems were utilized to handle the financial emergency. (financial-stability, n.d.)

The table 1, table 2 and table 3 discusses about the financial condition of the three banks, we have discussed about the effects of various factors on the stability of the bank. We see that most of the years the bank has good Z-score. The banks also have good values of all other factors. (Goetz, 2016)

The table 4 and table 5,  discusses about the financial conditions of various banks year wise. Apart from The banks Mashreqbank PSC, HSBC Bank Middle East Limited, Commercial Bank of Dubai P.S.C., National Bank of Fujairah PJSC, Bank of Sharjah, Commercial Bank International P.S.C., National Bank of Umm Al-Qaiwain PSC, Dubai Financial Market which were mentioned in the results we come to know the most of the other banks are doing financially well. (Kawamoto*)

References

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financial-stability. (n.d.). Retrieved from worldbank: https://www.worldbank.org/en/publication/gfdr/gfdr-2016/background/financial-stability 

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