What's behind the optimism in India's banking sector?

Both state-owned and private lenders put up a strong show in the July -September quarter. Twelve public sector banks reported an average of 50 per cent year-on-year growth in net profit at 25,685 crore rupees.

The jump came primarily on the back of a steady rise in net interest income and lower provisions. The second quarter results posted by PSBs were supported by strong credit growth and expansion of net interest margins. Experts say, while a moderation in net interest margins may occur going forward, healthy profitability is likely to continue.

Asset quality also improved. At the end of

September, state-owned lenders saw their gross non-performing assets decline 15.8 per cent year-on-year to 4.98 trillion rupees. Their net NPAs were also down 13 per cent year-on-year to 1.28 trillion rupees. However, hardening yields have had an impact on treasury income on a year-on-year basis. And, experts say the treasury performance may stay muted.

Meanwhile, private lenders collectively clocked a profit of 33,165 crore rupees, which was around a 67 per cent jump year-on-year.

The profit figures soared on the back of higher net interest income and robust loan growth. There was also a lag on the part of the banks in passing off increased rates of interest to depositors while pushing the lending rates higher, following the increase in the repo rate by 190 basis points.

This translated into an impressive growth in the margins of these lenders. Asset quality also improved significantly as both gross nonperforming assets and net NPAs declined year on year. Staying broadly in line with the credit growth, most private banks saw double-digit growth in their portfolios. Against this backdrop, there is now a sense of optimism surrounding the Indian banking sector.

Business Standard Consulting Editor Tamal Bandyopadhyay says there is definitely broad optimism around India's banking sector, and the most important contributing factor is the quality of assets. Having gone through pain after the asset quality review, the sector has come out clean.

Bandyopadhyay adds that on the asset side, the balance sheets are looking pretty good. According to him, the recoveries and lower slippages are also adding to the optimism. Provisioning for bad assets, which had been eating away at the profit of lenders, has come down dramatically since the June quarter. For most banks, the provision coverage ratio is very high. Overall, the sector is quite healthy at present. Others are also sanguine about the sector.

There are areas of concern, too. A State Bank of India research report has said that banks are not adequately pricing in credit risk, even as liquidity remains significantly downsized and credit demand is at decadal highs. Earlier this year, RBI Governor Shaktikanta Das had said that banks could not perennially rely on the central bank's money to support credit offtake, adding that they would have to mobilise their own funds and resources.

The latest RBI data show that as on the 21st of October, bank credit growth was at almost 18 per cent year-on-year, while deposit growth lagged far behind at below 10 per cent. This raises questions about how sustainable this recovery will prove to be in the coming quarters.

Bandyopadhyay also says that we need to be watchful of any irrational exuberance in the credit segment, adding that the underwriting has not been immaculate. According to him, there is a worry that certain state undertakings, that probably believe that they are the proxysovereign, may be giving loans without the right kind of underwriting. -APP