Malta’s banking sector is a study of contrasts: the country is home to many international banks offering specialist services supporting operations abroad, while some market segments of the island’s finance centre remain underserved. The island is currently home to 25 banks, which continue to perform solidly. However, Malta’s expanding economy, coupled with an influx of foreign talent and companies, has led to a growing demand for banks that support the niches that Malta’s finance sector has built up – such as private banking, wealth management and investment services. Malta offers remarkable growth opportunities for banks that are ready to seize a share of this business, but increasing the number of banks is a tough challenge. The global banking sector is in consolidation mode due to heightened capital requirements, rising compliance costs and the impact this has on banks’ profitability. This means the island is now looking to attract established foreign institutions and medium-sized banking groups, rather than start-ups and smaller banking rivals, which may find the current conditions more challenging.
Malta has a small domestic market, and its banks’ strategies have traditionally been tied to the local economy. The two largest retail banks, Bank of Valletta (BOV) and HSBC Malta, can trace their origins back to the 19th century. Maltese banking history has seen a number of mergers and acquisitions that shifted the competitive landscape, as well as a period during which major institutions were nationalised. The sector entered its most defining period in the late 1980s and 1990s when it was being transformed from a tightly controlled publicly owned sector into one of liberalisation and foreign ownership.
Malta also garnered attention when it joined the EU in 2004 and the Eurozone in 2008, as more banks discovered the country as a platform for business. Today, 25 credit institutions have a presence in Malta, offering a full set of banking services that range from retail and investment banking to trade finance and custody services. There is a clear divide between the local retail banks and the internationally focused, specialised foreign banks that have set up in Malta, which have almost no interaction with the domestic economy. The entire sector employs around 4,500 people.
HSBC is one of the two largest banks in Malta
For more than two decades, the Maltese have looked with pride upon their banking sector, as it has received positive ratings and rankings. The World Economic Forum’s Competitiveness Index 2017-2018 rates it as the 17th soundest banking system in the world, while institutions such as the International Monetary Fund, the European Commission, and credit rating agencies confirmed the sector’s robustness and resilience. BOV and the parent banks of domestic subsidiaries – such as HSBC – have successfully passed the EU-wide stress tests of recent years.
The size of the banking sector stood at 441.6% of GDP in June 2017, which might seem large when compared to its economy. However, in most central euro area countries, such as France, Belgium, Germany and Austria, the ratio of total financial sector assets to GDP ranges between 390% and 600%. Malta’s banking sector is also sharply segmented and essentially divided into three clusters.
The assets of the core banks, which have strong links with Malta’s economy and are thus systemically relevant, amount to 218% of GDP, which is lower than the EU average of 260%. The remaining assets are held by banks with limited links to the domestic market (22.3% of GDP), as well as by international banks with no links to the domestic economy (201.3%). They do not take local deposits, but rather focus on business with non-residents or intragroup transactions supporting their parent banks, or concentrate their activities on areas such as trade and project finance, syndicated loans and investment banking. In fact, many of them hold executive responsibility for specialised areas of their group’s global operations.
Bank of Valletta
BOV and HSBC are the largest players in the local retail sector. APS Bank, Lombard Bank, BNF Bank (previously Banif) and Mediterranean Bank are also considered core domestic banks. The local banks are retail-deposit funded, and their loan portfolios are diversified in different sectors of the economy. Some of the longest established international banks in Malta are branches of Turkey’s Akbank and Garanti Bank. They use Malta as a booking centre for foreign-exchange loans. Malta has also proved to be fertile ground for specialised banks, niche players or institutions targeting regional markets. Trade-finance specialist FIMBank, which grew from its base in Malta to become an international banking brand, is one of Malta’s greatest success stories. The bank was founded in Malta in 1994 and has set up offices in major cities across the world.
Other leading banking groups with a presence in Malta include IIG Bank, NBG Bank and CommBank. Malta has traditionally sought to attract larger players, however, there was a period in which Malta saw smaller, start-up banks coming to the island. While many of these banks are operating successfully, there were two particular cases, Nemea Bank and Pilatus Bank, which courted controversy.
FIMBank specialises in Trade-finance
Malta’s domestic banks have adopted a conservative approach to banking, and this has served the island well. Bank funding depends on retail deposits rather than wholesale borrowing, and over the years, the banks have stuck to this conventional banking approach. The country’s banks maintain substantial liquidity, adequate capital and prudent lending policies. The total capital ratio stood at around 15.5% for core domestic banks, at 16.2% for non-core domestic banks and at 47.9% for international banks in June 2017. These levels were significantly above the minimum regulatory requirements.
Performance of the Core Banks
The profitability of the core domestic banks decreased slightly in recent months but they still fared comparatively better than their euro area peers. Pre-tax profits contracted by around 14% to €203.9 million in June 2017, pushing down the return on equity (ROE) and return on assets (ROA) to 8.5% and 0.6%, respectively, in June 2017, and from 10.2% and 0.7% in December 2016. Nonetheless, Malta’s banks continued to outperform its European peers, which reported ROE and ROA of 4.2% and 0.3% respectively at the end of June 2017.
Malta’s core domestic banks continue to rely extensively on customer deposits as their main funding sources. The customer loan-to-deposit ratio increased to 58.7% in June 2017 from 56% in December 2016; however, the ratio remained well below the euro area average of around 100%. During the first six months of 2017, Malta’s domestic banks also cleaned up their loan portfolios, writing off legacy non-performing loans, which resulted in a reduced non-performing loan ratio, down to 4.6% from 7.1% at the end of 2015.
The World Economic Forum's Competitiveness Index 2017-2018 rates it as the 17th soundest banking system in the world.
Non-Domestic and International Banks
There are currently six non-core domestic banks operating in Malta. They offer only a limited suite of banking services to Maltese residents, usually restricted to deposit taking. In the first six months of 2017, the balance sheet of these banks shrank by 5.3% driven by lower loans granted to the credit institutions and also due to the selling of bank bonds. This group of banks relies heavily on retail funding, financing around two-third of their business activities. Although remaining positive, profitability of these banks narrowed. The ROE and ROA (after tax) stood at 2.6% and 0.2% in June 2017, down from 3.4% and 0.3% in December 2016. Lower non-interest income coupled with higher operating expenses also resulted in a higher cost-to-income ratio, which stood at 74%.
The international banks reported a contraction in their asset base of 5.4%. However, this development was mainly driven by one bank, which reduced its exposures with other credit institutions in Turkey and the UK. International banks continued to rely extensively on wholesale funding, while their regulatory capital position remained healthy and exceeded the regulatory minimum.
The Effects of De-Risking
Despite their positive performance, Maltese banks, as banks in other countries, are currently reviewing their business models and de-risking their portfolios by limiting their exposure to certain sectors of the economy, while also building up their capital buffers in accordance with European banking regulation. This, the industry says, will most likely lead to safer, albeit less profitable, banks in future; however, in the short term it provides a number of challenges as more stringent regulations and compliance requirements have increased transaction costs for both banks and their customers.
Some of Malta’s banks are also finding it increasingly challenging to clear US dollar transactions after global banks started cutting correspondent banking ties with their respondent banks, especially in emerging markets but also in small and medium-sized economies such as Malta. Due to the small size of the market, the island is of limited interest to international institutions, and global banks are weighing their rising compliance costs against potential profits from this activity. However, the authorities are hopeful that initiatives driven by the G-20, the IMF and Financial Action Task Force (FATF) will help in addressing the global correspondent banking crisis, while banks in Malta are reporting that alternative arrangement have been found and that they have developed new relationships with global institutions.
Wanted: More Banks
However, the most pressing challenge remains the limited number of custody banks in Malta as this affects the growth of the fund industry. Efforts to attract one or two medium-sized custodians to the island have been going on for years, but have remained unsuccessful thus far. As with many other segments of banking activity, the custody industry is experiencing consolidation, and Malta’s financial services regulator reports that this makes it all the more difficult to encourage custodians to move into Malta.
Banks already established in Malta are also reporting that increased regulatory requirements and additional compliance checks are affecting their operations as they are making certain banking services more costly and processes tend to take longer than before. There is a huge demand for more banks in Malta, with companies reporting that it is becoming increasingly challenging to source corporate banking services from Maltese credit institutions due to the fact that banks have become much more risk-averse and are keen to avoid overexposure to any one sector. There is widespread agreement among Malta’s bankers that more competition is needed to service business coming out of Malta.
The Central Bank of Malta was established in 1968 and it became part of the Eurosystem in 2008
Malta’s banking legislation is founded on European Union legislation and is compliant with the Basel Core Principles. Since the introduction of the EU’s Single Supervisory Mechanism (SSM) in 2014, the supervision of the island’s largest banks falls under the remit of the European Central Bank (ECB), while the MFSA is in charge of the supervision of the other institutions. However, although they fall under the auspices of the MFSA, Malta’s smaller banks emphasise that the regulatory burden is hefty due to the complex new regulations. The cost of compliance is enormous, whether in terms of people, technology or infrastructure, while rising capital requirements have become a significant constraint on the capital available for investment.
To future-proof the finance centre and the economy in general, Malta needs to escape the paradoxical situation that global banking giants are reluctant to look at the country due to small market size, while there are not enough banks in the country to satisfy the high demand for banking solutions. The sector agrees that the first bank to move into Malta would be able to attract a significant share of business. Malta’s finance centre offers plenty of growth opportunities, for instance, in areas such as ship finance, investment banking and custody services. The island is also a land of opportunity for credit institutions looking for an EU-compliant, yet flexible, domicile that provides access to the EU market and the neighbouring countries of North Africa. The emerging economies of the region are in need of infrastructure development, offering opportunities in the area of project finance. Malta’s professionals also believe that there is strong potential to attract more eCommerce payment business and fintech companies to the island and promote Malta as a prime location from which to service customers across the globe.
Client profiling and data analytics are expected to play a bigger role in helping banks, both in Malta and abroad, to seize new opportunities.
Internet Banking as an Opportunity
With technology playing a key role in banking these days, Malta has already attracted a significant number of financial institutions focusing on digital services and is home to more than 40 financial institutions. Credit card companies, payment service providers, payment gateways, card issuers and eWallets are licensed as financial institutions in Malta. Analysts agree that financial innovation will rise in importance in the coming years and that it may not be long before fintech companies enter the banking sector in a more decisive way. The industry believes there is scope to attract more online banks and digital solution providers to the island in times when traditional banking models are challenged like never before and the global banking industry seeks to catch up with the digital age.
As technology and regulation are reshaping the global banking industry, Malta is emerging as a centre for payment companies. In addition, Government’s drive to establish Malta as a blockchain and cryptocurrency hub will probably attract smaller, innovative institutions to establish operations in the country. But the challenge to attract banking players of a certain size and stature remains. Key industry figures comment that the pace and extent of regulatory change will continue to prove demanding to the sector for the foreseeable future, as will the continuation of a negative interest rate environment. The trend for banks to consolidate and streamline their operations is likely to prevail for some time to come. At the same time, banks will also increasingly look at alternative ways to generate revenue by offering new digital and added value services to their customer base. Client profiling and data analytics are expected to play a bigger role in helping banks, both in Malta and abroad, to seize new opportunities.