The anticipated rate cuts in October 2024 are expected to provide a gentle boost to banking margins, but not immediate relief. Repo-linked mortgages and most prime corporate loans are likely to reprice quickly, setting the stage for a gradual margin expansion due to easing funding costs and an accelerated disbursement of high-yield fixed-rate loans.
According to BNP Paribas India’s latest Banks Report, featuring insights from Banking & Finance Analyst Santanu Chakrabarti, the benefits from reduced funding costs will materialize gradually.
This will be driven by the repricing of fixed deposits (FDs) and increased momentum in current account and savings account (CASA) deposits. Immediate relief is expected only on short-term borrowing costs, with AXIS Bank (AXSB) standing out in this regard.
Despite strong earnings in FY24, the report notes that large-cap private bank stock prices have shown muted performance. This is attributed to the FY25 earnings per share (EPS) growth projections appearing lackluster due to the anticipated late interest rate cycle margin moderation.
However, the firm forecasts a more optimistic outlook for FY26 earnings growth as the benefits of rate cuts gradually enhance margins.
Chakrabarti cautions that any delay in rate cuts will postpone this recovery and potentially affect stock re-ratings. The marginal impact will depend on pricing choices made on loans and fixed deposits. He also points out that geopolitical factors and US inflation targeting may lead to ‘higher for longer’ interest rates, presenting a significant risk.
Impact on earnings and pecking order
The report explores the impact of delaying rate cuts by one or two quarters on FY26 earnings. A one-quarter delay is projected to impact earnings by -0.3% to -2%, while a two-quarter delay could affect earnings by 0.3% to -5.7%. Despite these variations, the impact is not significant enough to alter BNP Paribas’s ranking of preferred banks.
The analysis highlights that a one- or two-quarter delay would lower FY26 EPS growth by 18-210 basis points (bps) and 45-535 bps, respectively, from the current expectation of 11.1%-28.6%. AXSB and HDFC Bank (HDFCB) are projected to be the most affected, given their sensitivity to incremental funding costs.
Conversely, IndusInd Bank (IIB), with its high proportion of fixed-rate loans, could benefit from a delay in the short term, though its FY26 earnings growth may appear less appealing due to a higher base.
BNP Paribas reaffirms its top picks in the sector: HDFC Bank, ICICI Bank (ICICIBC), and AXIS Bank, in that order. These banks are expected to navigate the potential delays in rate cuts with resilience, supported by their strategic financial positions and adaptive capabilities.
