NAIROBI, April 16 (Xinhua) -- Kenyan banks are seeking to diversify their revenue streams amid interest rate caps which have negatively impacted funded income for banks, economic analysts said on Monday.

Nairobi-based investment firm Cytonn said that banks are exploring different avenues of revenue generation such as bancassurance in a bid to increase non-funded income.

"Banks will put more emphasis on alternative revenue streams to boost their Non-Funded Income and adopt an efficient operating model through alternative banking channels and digitization in order to remain profitable under the tough operating environment," Maurice Oduor, Cytonn's Investments Manager, said during the release of the Cytonn 2017 Banking Sector Report.

The report , themed "Diversification and efficiency key to growth amidst tighter regulation", analyzed the results of the listed banks using their full-year 2017 audited results so as to determine which banks are the most attractive and stable for investment from a franchise value and from a future growth opportunity perspective.

Oduor noted that there are currently 40 commercial banks and eight representative offices of foreign banks in the country.

He added that the report looked at four key focus areas, which are regulation, diversification, efficiency and asset quality.

He noted that with a tighter regulated environment following the capping of interest rates and adoption of International Financial Reporting Standards 9 (IFRS 9), diversification and efficiency will prove to be the key growth drivers in the banking sector, coupled with prudence in the wake of deteriorating asset quality.

"We expect the relatively challenging operating environment for the banking sector to persist in 2018, especially with the coming into effect of IFRS 9, which takes a forward-looking approach to credit assessment," said Caleb Mugendi, Investment Analyst at Cytonn Investments.

Mugendi said the Central Bank of Kenya has stated that banks will have to take a full hit in the provisions for loans issued from 2019 onwards, which will likely reduce capital positions for banks with poor asset quality, forcing them to raise capital in the near future.

"With the deteriorating asset quality, evidenced by the rising non-performing loans, we expect banks to be more prudent in loan disbursement in order to address the concerns around asset quality and enhance cost rationalization measures, in a bid to protect their profitability," added Mugendi.

He noted that the banking sector is also going through consolidation as heightened by merger and acquisition activities in the past four years.

Mugendi added that as the middle class grows rapidly, faster than the majority of countries in the region, there is an inherent increase in consumption expenditure and an increase in the percentage of population that will require banking services.

According to Cytonn, the level of financial inclusion has risen to 77 percent of the population due to digitization with mobile financial services rising to be the preferred method of access.