PVBs poised for long-term victory over PSBs amid raging retail deposit

The brokerage’s analysis over the past 50 years indicates that credit contractions or moderation are typically driven by adverse macroeconomic conditions or issues related to asset quality rather than stemming primarily from a slowdown in deposit growth or temporary liquidity constraints.

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The brokerage believes that banks are willing to procure funds, even at higher costs, if there is adequate demand and lending opportunities that maintain credit quality and return ratios. This willingness is demonstrated by the recent acceleration in deposits, which saw a year-on-year increase of approximately 13% following a prolonged slowdown since FY14.

However, the brokerage raises concerns about the current prolonged period of elevated interest rates and subsequent higher funding costs. Coupled with the escalating risk associated with unsecured retail loans, this scenario poses challenges to profitable lending. 

Additionally, recent RBI actions to curb undeterred growth in unsecured loans and NBFC loans could play spoilsport, it added. 

In light of these factors, the brokerage anticipates a moderation in credit growth to 12–14% YoY over FY25–27E, down from the current rate of approximately 16.5% YoY (or 21% including eHDFCL). 

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Similarly, it expects the loan-to-deposit ratio to normalise to around 75% from the current elevated level of approximately 80%. Consequently, Emkay believes the transient deposit growth lag is not to be solely blamed for any expected moderation in credit growth over the near-to-medium term and may recover if asset-quality risk eases.

Slowdown in retail deposits could pose a risk to credit growth in the long run

After a prolonged slowdown, overall deposit growth is finally seen picking up to some extent, aided by bulk & retail deposits, albeit at a higher cost. However, Emkay believes the retailization of loans (now contributing 32% of loans vs. 20% a few years ago) is set to accelerate further, given rising consumerism/elusive corporate credit growth. 

Thus, it believes there will be a prolonged all-out chase for relatively stable retail deposits (vs. corporate or government. deposits) to fund such retail assets and, thus, manage ALM risk and spreads. 

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On the other hand, it pointed out that mobilising these retail deposits at a reasonable cost could emerge as a bigger structural challenge due to dwindling household savings, slower branch expansion by banks, increasing substitution effect (investment in high-yielding MFs, equities, and small-saving schemes), and intensifying the inter-bank deposit war with new banks in the fray as well. 

This issue will be more pronounced for PVBs as HDFCB – the banking behemoth – joins the race to replace its high-cost borrowings from eHDFCL and funds its incremental credit growth, mainly led by retail deposits, thereby adding fuel to the fire. 

Emkay believes if these issues remain unaddressed for long, they will certainly hurt credit-deposit growth in the long run and even impact margins and ROAs, more so for PVBs.

Short-term gains for PSBs, long-term victory for PVBs amidst intensifying retail deposit competition

Public sector banks (PSBs) are currently experiencing a favorable period, characterised by a solid LDR and LCR. This positive trend is attributed to their prudent approach in the current economic cycle, where they have prioritised profitability over growth. 

According to insights from Emkay, PSBs have made commendable strides in enhancing corporate asset quality, maintaining stable management profiles, and successfully raising growth capital without significant dilution of BV.

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Emkay further notes that PSBs stand to benefit from a higher proportion of Marginal Cost of Funds Based Lending Rate (MCLR) loans in their portfolio. This composition is anticipated to alleviate the pressure on margins once the interest rate cycle starts to reverse. Coupled with robust treasury gains, this shift should contribute to improved profitability for PSBs.

However, Emkay cautions against the slower pace of branch expansion witnessed by PSBs in recent years, primarily attributed to asset-quality challenges and merger-related disruptions. This deceleration could potentially accelerate the decline in the market share of deposits and impact the lending dynamics of PSBs in the long run. Emkay also highlights the growing reliance of PSBs on retail loans as a strategy for growth.

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Regarding private sector banks (PVBs), Emkay foresees a more pronounced slowdown in credit growth in the near term, driven by heightened risks associated with retail asset quality and a lower LCR. Despite this, most PVBs, except for Kotak Mahindra Bank (KMB), are aggressively expanding their retail branch network through various models, including BC partnerships. 

Although this strategy may exert pressure on near-term profitability due to increased operating expenses (OPEX), it aligns with a long-term vision.

Emkay’s preferred selections among PSBs include State Bank of India (SBI), Bank of Baroda (BOB), Indian Bank, and Canara Bank. Among PVBs, Emkay likes ICICI Bank (ICICIB), Axis Bank, HDFC Bank (HDFCB), and IndusInd Bank (IIB), citing their robust liability and asset-quality profiles, augmented provision and capital buffers, and attractive valuations.

Disclaimer: The views and recommendations given in this article are those of individual analysts. These do not represent the views of Mint. We advise investors to check with certified experts before taking any investment decisions.

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Published: 21 Mar 2024, 03:06 PM IST