Higher deposit, lending rates put pressure on bank margins in first quarter
Moneylife Digital Team 07 July 2011

Brokerages say banks are seeing a significant growth in funds mobilisation, but lower credit off-take; public sector lenders under strain from exposure to power utilities

The banking sector is likely to have a lacklustre performance in the first quarter on account of dull domestic conditions that has resulted in lower credit growth and higher resources mobilisation, according to brokerages.

ICICIdirect.com says lower credit growth will see a dip in margins and there is a need to watch asset quality along with the stricter provisioning norms by the Reserve Bank of India (RBI). But private banks should be better off on net interest income (NII) and profit after tax (PAT) that is expected to grow by 22% and 32% year-on-year, respectively.

The brokerage estimates that Yes Bank's non-interest income growth will be much better at 29%. But lower credit off-take and higher yields are impacting treasury, the brokerage says, and operating expenses are expected to rise with the opening of new branches during the first quarter. PAT growth should be a healthy 49% y-o-y.

Angel Broking observes that credit demand has declined to around 20%, whereas deposit growth has increased to over 18% in the period, as a sharp hike in lending rates has affected credit off-take, while continually increasing deposit rates over the past six months has resulted in a pick up in mobilisation. Consequently, much of the funds mobilised has been deployed at a negative spread in government bonds.

Also, the RBI hiked savings bank rate by 50 basis points to 4% on 3 May 2011, for the first time in 19 years, reducing the spread between savings deposit and term deposit rates, which has widened significantly recently.

Brics Securities expects Punjab National Bank (PNB) to take an earnings hit of 2.5% to 9.9%, mainly due to the overhang of power sector exposure and restructured asset slippages. Estimated EPS for 2011-12 is down by 1.2 % to factor in restructured asset provisioning (Rs155 crore) according to new RBI guidelines.

Of the entire power sector exposure, the share of private power generation companies is 62 % (about Rs13,200 crore), state electricity boards at 23% (Rs5,000 crore) and state generation companies/utility companies at 8% (Rs1,600 crore). In the event of asset quality slippages in the power sector due to fuel shortage, PNB is likely to take a hit from reversal of accrued interest income and provisioning expenses.

According to KR Choksey Institutional Research, state electricity utilities are making losses by selling power below the cost of purchase. Only 16 electricity utilities have revised tariffs to adjusted higher fuel cost. This is indicative of the woes of PNB and other power sector lenders.

Overall on the banking sector, KR Choksey believes that NII growth and fee income are likely to remain healthy on the back of robust loan growth. Compression in margins coupled with slippage from stressed sectors like small and medium enterprises and micro-finance institutions could act as earning dampeners.

Moderation in the credit-deposit ratio and the rising cost of funds are key drivers for margin compression during the quarter. Margins of most banks are likely to be under pressure due to rising cost of funds and slowdown in credit off-take. Given the fragile credit demand, banks may absorb about 50% rise in cost of funds.

The sector's margins have peaked and are likely to contract by about 10-15 basis points quarter-on-quarter (q-o-q). NII of banks under coverage is likely to grow by 21.9% y-o-y and 2.2% q-o-q. Earnings are likely to grow by 13.1% y-o-y and 33.8% q-o-q (excluding State Bank of India for which earnings are estimated at 16.4% y-o-y and 6.7% q-o-q). Earnings of private banks are expected to grow by 36.6% y-o-y and a negative 1.7% q-o-q.

Sharekhan estimates moderate earnings growth for the banking sector in the first quarter. This would be due to a dip in margins and increased provisions. It expects banks to post a moderate growth in top-line due to modest credit off-take and pressure on margins due to rising rates. Though banks have increased lending rates, the lag impact of rise in funding costs and increase in savings deposit rates will impact margins. In addition the higher non-performing asset (NPA) provisions (due to revised norms) and higher employee expenses (due to amortisation of pension expenses) would hit profit growth y-o-y.

With inflation expected to cool down in the second half of 2011-12, pressure on the banking sector could ease going forward. For now, though, when returns are healthy for depositors, but funds costly for borrowers, it could be a difficult period for investors as they look for bargains at lower levels.

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