Amid challenges private banks are poised to witness improved cost-to-income outcomes as operating leverage comes into play. Steady fee growth and stable credit costs are expected to support return metrics (RoAs/RoEs) comparable to March 2023 levels through FY26. Consequently, valuations of private banks, which have corrected significantly, present an attractive risk/reward proposition for investors seeking exposure to the banking sector, according to analysts.
Private sector banks have faced a period of relative underperformance compared to their public sector counterparts, amidst various challenges affecting the banking sector. Over the past couple of years, the Nifty Private Bank index has lagged behind the Nifty PSU Bank index by significant margins, with underperformance ranging from 70.4% to 141.8% over one- and two-year periods, respectively. This contrast has been highlighted by the remarkable 175.7% growth achieved by public sector banks (PSBs) during the same timeframe.
Why the subdued performance
The competitive landscape for deposit mobilization, coupled with concerns around stretched Loan-to-Deposit Ratios (LDRs) and certain signs of weakening in retail asset quality, have contributed to the subdued performance of private banks over the past year. Regulatory actions by the Reserve Bank of India (RBI) on select lenders due to compliance issues have also impacted overall sector performance.
Despite facing challenges in liabilities mobilisation, particularly marked by elevated deposit rates, private banks have demonstrated resilience in managing liquidity. Many banks have reported robust deposit growth rates, surpassing advances growth and bolstering liquidity coverage ratios. Moreover, expectations of potential rate cuts by the RBI in the latter part of the financial year are anticipated to alleviate liquidity constraints and mitigate concerns over Net Interest Margins (NIMs).
Asset quality has largely held steady, with a decline in Gross Non-Performing Loans (GNPLs) and Net Non-Performing Loans (NNPLs) from March FY23 levels. Banks have benefited from recoveries and writebacks related to stressed assets arising from the pandemic, thus keeping credit costs in check. While certain segments of retail lending show early signs of deterioration, overall corporate credit quality remains robust.
A notable development impacting the banking sector is the recent RBI draft guidelines on provisioning for loans to projects under implementation, which could potentially deter banks, particularly PSBs with significant exposure to such projects, from extending new credit or prompt adjustments in loan pricing.
