In the fourth quarter of 2009, banks in Saudi Arabia are expected to continue to make large writedowns, which will mean provisions for this year will exceed those made in 2008.

Fortunately, there are signs of improvement ahead. Oil prices have risen substantially since reaching their low point in March this year, and are predicted to remain buoyant throughout 2010, which will benefit the kingdom’s banking sector.

The flip side of this is that provisioning has probably not yet come to an end, even if it peaks in the fourth quarter of this year as expected. The lack of clarity about what assets the banks have included in their writedowns means that analysts still expect the defaults at local conglomerates Saad Group and Ahmad Hamad al-Gosaibi & Brothers to have an impact on their balance sheets throughout 2010.

Saudi banks remain reluctant to extend fresh loans and tend to put most money in the banking system on deposit with the central bank. Although margins on new loans are larger than they were a year ago, unless the volume of the loans increases, the banks’ profits will only grow slowly in 2010. Provisions will also continue to eat into profits.

Banks in the kingdom are well capitalised, and loan-to-deposit ratios are typically well below regulatory maximums. The banks have ample room to extend loans once the economy recovers. Fresh bond issues in the region will also give the local banks some lucrative opportunities to invest their spare cash.

But convincing the banks to start making loans again will be difficult. The Saudi authorities have tried to put pressure on them to stop depositing money with the central bank by lowering interest rates, but the banks remain risk averse. If the banks want to recover their lost profitability levels, they will have to start lending again.