Mumbai Analysts say Treasury deficit-hit banks are expected to post weak profit growth in the three months to June due to hardening of bond yields.
Banks hold a large share of government securities, including state government loans (SDLs) and treasury bills, as part of regulatory investment requirements. Therefore, any volatility in the bond market is expected to impact their earnings. Not only do they have to set aside mark-to-market provisions for declining bond prices (bond yields and prices move in opposite directions), they also incur losses when selling such investments.
While yields on the 10-year benchmark government security (G-Sec) rose 60 basis points (bps) to 7.45% between April and June, corporate bond yields rose nearly 70 bps. Analysts said the pressure would be reflected in the June quarter earnings. The 10-year yield had closed at 7.42% on Friday.
Analysts at Kotak Institutional Equities said, “We expect banks under coverage to report a 7% year-on-year (y-o-y) decline in earnings on account of weak operating performance growth – primarily higher 25% drop due to Treasury deficit.” 6 July report
Kotak analysts said the one-year government-sec yield rose 150 bps during the first quarter of FY13, and is likely to incur significant losses as a result. The report said that while banks have created volatility reserves in investments over the years, they cannot use this reserve and allow losses to flow into the bottom line. The Reserve Bank of India (RBI) allows banks to create investment volatility reserves from profits earned on the sale of investments to hedge against market risks.
Recent news reports said banks have requested the RBI to allow the June quarter losses to be spread over a few quarters instead of taking full effect in the first quarter. While it was not immediately known whether the RBI had accepted the request, there is a precedent from April 2018 when it allowed banks to spread losses over four quarters.
According to analysts at Motilal Oswal Financial Services Ltd, earnings of the public sector lenders will remain muted, impacted by weak Treasury performance due to rise in bond yields. In a report on June 7, its analysts said traction in credit growth would keep net interest income healthy and enable margin expansion.
“This will be supported by continued reduction in credit cost as asset quality performance for public sector banks remains stable,” it added.
That said, credit growth is expected to improve on the back of better demand from corporate and retail borrowers. While loans to retail borrowers 34.7 trillion on May 20, up 16.4% from a year ago, loans to micro, small, medium and large enterprises 31.6 trillion on May 20, up 8.7% from the year-ago period.
Systemic credit is witnessing a healthy revival due to continued strength in the retail and SME (Small and Medium Enterprises) segment, while the corporate segment is also witnessing a revival. The Motilal report said that disbursement growth in many retail products has surpassed pre-Covid levels, while corporate growth is led by better utilization levels and working capital requirements.
However, not everyone seems convinced by the headline growth numbers. Analysts at Kotak Institutional Equities say they do not see any concrete signs of recovery in corporate credit growth as companies have de-leveraged significantly in the past few years. “The outlook for micro, small and medium enterprise credit growth does not look great, as a number of promoters have seen significant hardship due to pandemic-induced stress in the recent past,” said Kotak Institutional Equities report.
In its Financial Stability Report, the RBI said that while corporate sales and profitability have increased, a sustainable start to the capex cycle remains elusive. It added that maximum revival in credit demand was witnessed in the second half of 2021-22 and the momentum has continued in FY23 so far.
“While personal credit continued to be a major component, credit demand from the industrial sector revived in 2020-21 as well as in the first half of 2021-22 after collapsing. A significant portion of the new industrial loans were extended in the form of working capital loans,” the RBI said.