* UAE banks' cost of risk to remain high
* Funding shortage to affect UAE banks' growth potential
* UAE banks' profitability to remain attractive
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DUBAI, Aug 24 (Reuters) - UAE banks, whose second-quarter profits were hit by credit provisions, may see growth curbed by difficult funding conditions but their overall profitability is attractive, Goldman Sachs said on Monday.
The bank earlier revised its ratings and stock price targets on five UAE banks.
Goldman Sachs cut First Gulf Bank to neutral, while raising Dubai Islamic Bank and Abu Dhabi Commercial Bank to neutral. It also downgraded National Bank of Abu Dhabi to sell from neutral.
"We ... expect funding trends to become more challenging going forward, which will negatively affect UAE banks' growth potential," Goldman Sachs said in a research note.
"But while we expect the cost of risk to remain high and top line pressure to emerge due to narrowing margins and lower volumes, we estimate that profitability levels in general will remain attractive."
Many of the banks in the UAE saw second-quarter profits decline because of provisions booked against a rise in loan defaults. That level of non-performing loans is "rising and may remain elevated for the rest of the year," Goldman said.
The main risks for the UAE banks are the continuous pressure on real estate prices and falling corporate profits, which could result in higher-than-anticipated credit losses and lower investment values, the analysts said.
The UAE banks' shares have underperformed global peers, as investors remain concerned "despite significant support from local governments, which have helped boost funding and capitalization."
"While it is not surprising that non-performing loan ratios are increasing and thus the cost of risk is rising, so far, asset quality deterioration has been gradual and well within our expectations," according to the research report.
Concerns have mounted recently over the fallout of the debt troubles at two Saudi conglomerates -- Saad Group and Ahmad Algosaibi & Bros -- to which several UAE banks are exposed.
But Goldman said the banks' total exposure is relatively small and that systemic risk due to credit quality is low. UAE banks have been prudent in their provisions, the real estate is mostly secured and that they remain among the best capitalized in the world, according to the analysts. (Reporting by Nicolas Parasie; Editing by Rupert Winchester)