The Nifty Bank has largely underperformed the frontline index Nifty at the start of FY21. Since the start of FY21 Nifty Bank is up by 106 per cent while Nifty is up by 113 per cent. Nevertheless, in the last month, Nifty Bank has been trying to cover up the lost ground. In the last one month Nifty Bank is up by almost 2.5 per cent compared to 1.5 per cent by Nifty. There is a sequence of events and factors that is leading to such outperformance by the Nifty Bank.
Bad Bank to Solve Some Structural issues
Last month, to tackle the growing problem of mounting bad debts in the banking sector, Union Finance Minister Nirmala Sitharaman announced the setting up of National Asset Reconstruction Company Limited (NARCL) under the Companies Act. It thus delivered on its promise to set up a ‘bad bank’ to clean up the balance sheets of commercial banks. Under the new setup, the NARCL will take over loans worth almost Rs 2 lakh crore from the books of commercial banks at a mutually agreed price. The NARCL will pay 15 per cent of the price of these loans upfront in cash to banks and then issue security receipts in lieu of the remaining amount.
The NARCL will then try to resolve these bad loans in a time-bound manner with help from the India Debt Resolution Company Limited (IDRCL). In case the IDRCL is unable to sell these bad loans at a satisfactory price to make good on the security receipts, the Centre will step in and fund the gap, but within a budget limit of Rs 30,600 crore. Indian banks and especially public sector banks have been facing the NPA problem since 2014 without any long-term fixes on sight, however, the formation of NARCL and IDRCL is likely to give a stable solution to this. Besides, it will also help banks to free up some liquidity that will help them in credit growth.
Moody’s raised the rating outlook for 9 banks
Moody’s Investors Service raised the rating outlook for 18 Indian corporates including nine banks, to ‘stable’ from ‘negative’. This rating action is driven by Moody’s recent affirmation of the Indian government’s Baa3 issuer rating and change in outlook to stable from negative. Moody’s also affirmed the long-term local and foreign currency deposit ratings of Bank of Baroda, Canara Bank, Punjab National Bank, and Union Bank of India. The rating outlooks of these have also been changed to stable from negative. Stabilization in asset quality and improved capital are the main drivers of this rating action.
The rating agency in its statement said, “Corporate asset quality has improved as legacy issues have been resolved while deterioration in retail asset quality was relatively moderate,” the agency said. Asset quality will further improve if economic activity continues to normalize.”
The affirmation of BOB, Canara, PNB, and Union Bank’s ratings and change in outlook to stable from negative, reflect the fact that despite the significant economic challenges since the onset of the pandemic, their asset quality has only deteriorated modestly while capital has improved. Such a change in outlook will help banks to reduce its cost of capital as it can borrow at a lower rate now. Profitability will improve over the next 12-18 months as credit costs will decline. Besides, it will also attract many foreign investors towards the shares of these banks as their rating has been improved.
Better Q2FY22 Earnings
Many banks’ pre result updates suggest sequential traction in credit and continued momentum in deposit growth, particularly for CASA deposits. For example, India’s largest private lender HDFC Bank while announcing its Q2 update said that the bank’s advances aggregated to approximately Rs 11.98 lakh crore as of September 30, 2021, a growth of around 15.4 per cent year-on-year from Rs 10.38 lakh crore in the same quarter last year and a growth of around 4.4 on quarter on quarter basis. The bank’s CASA deposits aggregated to approximately Rs 6.58 lakh crore as of September 30, 2021, a growth of around 28.6 percent year-on-year.
Net interest margins (NIMs) were depressed last quarter due to the reversal of interest on high slippage. Lower yields and higher liquidity will put some pressure on NIMs even in the latest quarter; however, it will be offset by a lower cost of finance. Banks have reduced interest rates to spur growth ahead of the festive season but improvement in credit to deposit ratio is expected to offset any pressure. Besides, redeployment of excess liquidity will have a positive impact on NIMs.
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