If I just look at the incidents of the recent past, NBFCs were trying to overshadow banks up until last year. Do you think the trend has now reversed or do you see it reversing?
In fact, if you see last year, the whole narrative was interest rates were on the rise and to that extent there was a natural inclination to play banks which worked out beautifully towards the end of the last year. As a potential peak in rates has emerged in sight over the last couple of quarters which is where I think NBFC
outperformance has begun.
Are we still closer to anyway, cutting rates or reduction rates? I do not think at all. But even a plateau of rates from a regulatory perspective has been good enough to see a bit of a valuation pop up for most NBFCs.
We usually tend to prefer larger names across the board versus some of the smaller names. With respect to banks, the narrative is more about how net interest margins move in the near term. But over the medium to long term, two factors drive stock prices which is growth and asset quality. As we look into FY25, growth will be the single most important parameter to look out and that is what should drive stock returns in our view.
Systemic credit growth is running at roughly 14-14.5% if we adjust for the HDFC Limited merger.
Deposit growth has been a challenge. But if you see last quarter’s data, deposits have sequentially outgrown credit on a sequential basis. So, once this balance is out, you should see a reasonable return from banks over 12 to 15 months perspective. NBFCs, the class as such went up over the last couple of quarters. Incrementally, we want people to move towards more quality names and those who have delivered growth through cycles.
Private banks’ profitability remains strong, but given the margin contraction, elevated cost ratios, normalisation in credit costs, etc, you think earnings could be muted going forward and margins clearly have peaked out as of Q1?
I would not call it muted as such. If you see, if most frontline private sector banks, even if they manage to hold on to margins on a full year basis in FY24 versus FY23 or even a marginal compression, we think there are levers with respect to credit costs as well as opex to manage a reasonable mid-teens kind of earnings growth.
In our view, that should not be a challenge. And as such, for most frontline names, valuations are not expensive, they are pretty-pretty reasonable.
So, more of a slight outperformance to overall market returns is what one should expect from frontline banks. As I said, any growth levers from an incremental perspective should drive stock price than the outcome on margins.
On one hand, you have got Fitch warning of a potential downgrade to several US banks and on the other, it is highlighted that the risks are receding for Indian banks. So what exactly do you think is supporting this macro view for banks, in your opinion? And do you think that this will sustain, that Indian banks will remain sort of isolated from that pain?
I think if you see banking asset quality as a sector is at a decadal high levels, there is no leverage in the corporate system which has gotten built in. So as such, external risks are low. Small pockets of emerging concerns, I would say, are they alarming, I am not sure yet but people would want to see progress on how unsecured loans as a class behaves.
Now, even there, I think, most frontline private banks have lent to existing customers.
So that should not see a meaningful challenge but that is one area that one would watch out for. I do not think what is happening, especially with respect to US banks, could have a meaningful bearing as such from a fundamental perspective.
While obviously, the term narratives could probably impinge on prices, but fundamentally, I think the sector remains in a quite solid shape.
Given that the RBI has directed scheduled banks to maintain an ICRR of 10% in NDTL, what is your view on this? What is the impact that you see on margins? Which institutions do you think will really get impacted?
I think that measure was more to kind of absorb some of the excess liquidity created. And since they had not raised frontline rates, and given the inflationary pressure still persists in the economy, it was their way of signalling that the withdrawal of accommodation stance still has to kind of percolate through, which is why they did it.
Does it actually impact margins in a meaningful manner, I do not think so because they have also said that they will review this over a month or two, as we enter the festive period and ensure that liquidity is reasonable. So I would not fret over on that too much from a margins perspective.
What about the gap between deposit and loan growth, which is higher for many banks and they may need to accelerate the pace as well of deposit growth to fund the loan growth as well? How do you view this competition for deposits picking up?
I think that has been the overarching view that we have had that banks which will deliver deposit growth should see outperformance versus those who do not. Thankfully, the system itself, if you see, on a March 23 basis, sequentially deposits have outgrown credit, which means that the incremental rates that have gone up on the deposit side are helping in driving deposit flows.
And our view is that deposit rates will remain sticky, especially with the largest private sector bank now stepping up the momentum on deposit mobilization.
I think the larger guys are better placed versus smaller guys from a deposit perspective and which is why our positive stance is towards the larger versus the smaller ones. As far as the wedge between credit and deposit is concerned, I think as a system, we need to see greater deposit growth and which will be a function of how deposit rates move.
So hence our view that deposit rates will remain sticky for some time. Larger guys are well placed to navigate that.
Could we see margin contraction in the near term for some more time?
I think, yes, obviously, you should see margins coming off from even 1Q levels. But as a whole, would that lead to meaningful earnings downgrades, I am not in that camp. I think frontline banks have levers to manage earnings, even as some bit of margin compression comes through.