Noting that regulatory forbearance has removed immediate capital requirements from public banks by postponing the recognition of distressed loans, the report says private banks are also the most competitive on this front.
The report expects bank earnings and profitability to recover in the next fiscal year on the back of lower loan impairment charges which improved to 1.2% in the first half of FY22, vs. 1.7% a year ago, as forbearance will limit further loan writedowns.
Pressure on asset quality will ease as recoveries from impaired loans improve, while earnings are supported by an adequate profit before provision of 3.6% in the first half, up 10 basis points from compared to a year ago, thanks to stable net interest margins and operating costs.
But, waning forbearance is likely to put pressure on profitability, and average operating profit/risk-weighted assets will remain commensurate with banks’ current earnings and profitability scores, according to the report.
On the other hand, private bank earnings are expected to continue to outperform public banks, supported by higher pre-provisioning income buffers and a more profitable loan mix as well as greater diversification of the revenue base.
However, any increase in loan impairment charges after the forbearance ends should be somewhat offset by robust loan growth and increased fee income amid stable cost-to-income ratios, he said. warned.
The banking market is geared towards traditional banking, as evidenced by the high share of loans at 55% of assets, he said.
However, he added that an overreliance on interest income can lead to income volatility if the bad debt ratio increases.
The report also points out that the greater diversification of private bank income partially mitigates this risk.
Retail lending, which accounts for 25% of sector lending, is driving credit growth amid low-risk appetite for corporate and SME lending, although the agency expects growth business credit picks up as the economy recovers.
Banks’ risk profiles and financial performance are closely linked to the quality of loan underwriting, given their traditional business models and heavy reliance on interest income.
Excess liquidity and an accommodative interest rate regime since 2020 have also helped the financial system weather the challenges, but bank operations and income generation may face renewed pressure if stress becomes a binding constraint on their modest loss-absorbing buffers, especially in state-owned banks. Still, he expects moderate growth amid easing risk aversion in 2022.
Private banks and SBI are better positioned as evidenced by their impaired loan ratios and lower borrowing costs, followed by Bank of Baroda and Canara Bank.
The agency expects large private banks to gain market share as their much better capitalization can support higher loan growth, supported by strong retail franchises, a diversified business mix and funding. stable.
Noting that lower risk is intrinsic to credit profiles, the report expects stable sustainability ratings underpinned by a stable operating environment that is driven by the economic recovery, lower risk of further pandemic-related disruptions and a dovish regulatory stance.
The viability ratings of SBI, ICICI and Axis Bank reflect moderate financial strength, with a BB operating environment score constraining private banks.
The SBI is the most competitive of the public banks due to its dominant franchise, wide reach and relative pricing power, which should partially offset some of its capital constraints.
The report expects the economy to outperform its peers and projects real GDP growth of 8.4% in FY22 and 10.3% in FY23. Banks will also benefit from stimulus measures. forbearance in the meantime, such as state-guaranteed emergency funding and the ability to restructure loans.
This should limit asset quality risks and earnings and give banks time to build capital buffers before asset quality risks reappear once forbearance begins to dissipate from 2023, according to the report.