Global investment banking firm Goldman Sachs has downgraded State Bank of India (SBI) and ICICI Bank, saying the Goldilocks period for banks is over.
The report highlights a 5% to 2% cut in earnings estimates across the coverage universe for FY25E/26E, with an aggregate PAT below consensus by 2%/1% for FY25/26. The firm notes a challenging near-term outlook for the financial sector, signalling the end of the proverbial Goldilocks period characterized by strong growth and visible profitability.
Key concerns outlined in the report include rising pressure on the cost of funds due to structural challenges in the funding environment, growing apprehensions about rising consumer leverage, especially in unsecured lending, and the need for banks to expand their distribution networks for future deposit growth. These challenges have led Goldman Sachs to prefer commercial retail over consumer retail, anticipating a slower growth trajectory and better returns.
While acknowledging the comfortable valuations in the sector, Goldman Sachs outlines multiple themes impacting the industry. These include headwinds to deposit growth, consolidation in consumer lending, and peaking of ROAs for banks.
“We see multiple headwinds to deposit growth as it loses its attractiveness on: 1strained financial savings, 2) the rise of alternatives such as stock market investments and 3) strong growth in alternate government savings schemes (PPF and Small Savings), size of which has grown to 21% of the total deposits. Interestingly, increase in alternative government t savings schemes is equivalent to 34% of the increase in deposits over FY21-23. We believe the system would need to offer attractive rates to make bank-deposits attractive,” the brokerage said in its report.
The downgrades
Goldman Sachs downgraded SBI to Neutral from Buy, projecting a 4% downside, while ICICI Bank sees a 3% upside with a downgrade to Neutral. Yes Bank faces a more significant downgrade, shifting to Sell from Neutral, with an anticipated 37% downside. In contrast, Bajaj Finance receives an upgrade to Neutral from Sell, with a modest 2% upside, and HDFC Bank retains a Buy recommendation with a potential 33% upside.
The report anticipated a moderation in Return on Assets (ROA) for financial institutions due to continued margin pressure, slower loan growth, and the necessity for balance-sheet repair. The dilemma of maintaining market share versus compromising margins is highlighted, with the overall outlook suggesting a more challenging environment for Indian banks.
The report provided a nuanced analysis of State-Owned Enterprises (SOE) banks, private banks, and non-banking financial companies (NBFCs), offering recommendations based on their specific market positions.
“While investors appear to be tilting towards SOEs banks given their relatively-comfortable loan-deposit (L-D) ratio, we believe SOE banks will continue to witness pressure on margins on: 1) a focus on low-yielding loans such as mortgages or large-ticket corporate loans and 2) elevated funding costs,” it said.
The risk to the presented view is identified as an earlier-than-expected cut in policy rates, which could alleviate liquidity concerns in the system. Such measures by the central bank to ease liquidity through Cash Reserve Ratio (CRR) or Statutory Liquidity Ratio (SLR) are seen as potential mitigating factors, particularly benefiting private banks currently facing stretched loan-to-deposit ratios.
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