Indian Banking Industry Review – Feb 2010

We are seeing lots of news about the Indian banking industry in the domestic as well as in overseas markets. The Indian Budget 2010-11 has mentioned new banking licenses, which means we will see new players and hence more competition, and better savings and lending rates, which is better for the consumers and borrowers.

  • On the domestic front, regulatory action in terms of increasing the CRR ratio and migration to base rate from the current PLR system were on the negative side while marginally better than expected third quarter results were a positive.
  • The change in the CRR rate has already resulted in a sudden spike in the yields especially in the short end of the yield curve.
  • The hardening of bond yields will have negative impact on Q4FY10 results of banks especially PSU banks.
  • The third quarter results for the Indian banking industry were in line with our expectations with the Net interest Income growing by 12% and flat growth in PAT on year on year basis for banks in KRC Universe.
  • Structural improvement in the CASA to 38% from 34% y-o-y basis.
  • The gross NPA’s has increased by 25% and 6% on y-o-y basis. We believe that the excess NPA formation cycle has nearly ended for most of the banks.
  • On the global level, regulatory actions from Bank of China increasing the CRR rate for the second time in a month and Fed’s decision to increase the discount rate have been a negative. Major European banks like Barclays, Societe Generale have posted solid results for their fourth quarter. The focus is now shifting from crisis caused by banking entities to the one caused by Sovereigns defaults as seen in the case of Greece. We believe that the political rhetoric for stronger regulatory oversight will continue for the next year keeping the banking sector under pressure.

For the Indian banking sector, the key short term triggers would be the net government borrowing as per the budget. Our estimates indicate that the total net government debt borrowing will be almost equivalent to the last fiscal pushing up the yields. We believe that private sector banks will continue to outperform the public sector banks in the short term while the sector itself would under perform the market.

We believe banks will fare well on all the key parameters such as loan growth and margins as the growth engines of the economy ignite and return to 9% growth trajectory. As it happens the quality of assets will improve which will boost the banks’ bottom lines.

Recent quarterly results show that banks are set to reap the benefits of pickups in credit growth and likely to post better numbers in the coming quarters. Albeit the demand for loans is mainly for meeting working capital requirements, we believe corporates particularly infrastructure firms will start withdrawing the recent sanctioned loans for project financing as well as things get normalize.

Going forward the RBI, which recently increased the CRR by 75 bps beating market expectations of 50 bps, to 5.75%, may hike reverse repo by 25-50 bps during next monetary policy review to control inflation. It will result in better C/D ratio and margins. Deterioration in the asset quality has largely started to moderate. If this trend continues, lower slippages across the sector would suggest strong case for upward revision in the earnings estimates of the banks.