Upcoming regulations to put pressure on profitability
Asia Securities further said the forthcoming regulations by the Central Bank which will lead to a stricter credit approval process resulting in slower credit growth will have knock-on effect on banking sector profitability.
“Risk-sensitive pricing where more credit towards customers with higher credit ratings at lower rates will affect margins while any reduction of securitization exposure, including credit card business, would further deteriorate margins (the credit card business is a highly profitable business),” Asia Securities Manager Research Srimal Liyanage who authored the report noted.
According to latest data, banking sector total credit grew by 19.9 percent year-on-year (YoY) in March 2015 while the private credit grew by 13.9 percent yoy.
Lower interest rates in the economy have dented banking sector interest margins during the last 5 years but the recent data available for April 2015 shows that the margins have edged up by 50 basis points to 3.7 percent from 3.2 percent a year ago, predominantly due to rise in low cost CASA basis.
During the first four months, banking sector CASA base increased by Rs.81.5 billion while the total deposits increased by 159.2 billion, and out of this, savings deposits accounted for 48 percent.
Limits on lending and the margin pressure would further put pressure on the Return on Assets (RoA) and Return on Equity (RoE) in the banking sector.
Therefore Asia Securities is of the belief that this pressure on profitability combined with the Central Bank’s Rs.10 billion minimum core-capital requirement will promote consolidation or force banks to raise additional capital.
“While this will be slightly dilutive in the short run, we believe that this will further strengthen the banking system to face external financial shocks and safeguard investments,” Liyanage said.