Q2FY23 was a quarter of earnings upgrades for banks: IIFL Securities

16 Nov 2022 , 10:38 AM

Treasury income was muted for Banks, though significantly better sequentially, compared to Q1FY23 where higher bond yields led to MTM losses that created a drag on reported earnings. Operating expenses remained elevated, with increase in volumes and network expansion being key drivers. Overall, NII and core PPoP grew 21% and 45% year-on-year, respectively (PPOP grew 30% year-on-year).

However, PAT witnessed 47% year-on-year growth, driven by lower credit costs. Annualized credit costs for large banks stood less than, or equal to 0.9%. This quarter, earnings have been largely upgraded, barring marginal cuts for SFBs. Overall low slippages should keep core credit cost low, while additional balance-sheet provisions, held by Banks that could be written-back, could further cushion credit cost.

Going forward, earnings for banks should be driven by strength in loan growth, margin expansion in the near term, higher operating leverage as investments start to play out and benign credit cost. Overall, uncertain macro and geo-political environment and higher inflation, remain key risks.
 
Loan growth picks up pace

Loan growth for Banks under IIFL Securities’ coverage came in at 5.0% sequentially (2.6% sequential growth in Q1, which is seasonally weaker), leading to a pick-up in year-on-year growth to ~21%, from ~18% in Q1FY23. For the system as a whole, loan growth stood at 4.0% sequentially / 15.3% year-on-year (as per RBI Sectoral Deployment Data). For the system on a sequential basis, growth was led by Retail loans (+5.2%) and Services segments (+4.9%), while Agri loans grew 4.0%.

Industry loans grew 2.3% sequentially, and year-on-year growth increased to 12.6% (highest since February 2014). Equitas Bank, AU Bank and HDFC Bank grew significantly faster than peers in the quarter. Despite global headwinds, domestic demand remains strong, indicating that loan growth should sustain momentum in the coming quarters. Analysts at IIFL Securities expect large private banks to grow ~21% in FY23.

Margins expand driven by higher yields

There was a broad-based improvement in NIMs for Banks in the quarter, mainly driven by faster re-pricing of loans versus deposits and strong recoveries/upgrades. As the impact of rate hikes (190 basis points over May-September) flows through and with a possible further hike, NIMs should remain strong for the next 1-2 quarters, given that >50% of loans are on floating rates for most large banks, and that deposits would re-price with a lag.

Treasury performance improves sequentially; opex remains elevated

In Q2FY23, G-Sec rates for 1/3/5 years increased by 49/14/6 basis points to 6.70/7.10/7.32%, while 10-year rate moderated 5 basis points to 7.40%. As highlighted in IIFL Securities’ preview note, this kept Treasury income muted for Banks, albeit significantly better on a sequential basis. Most Banks saw marginal profits; a few reported losses. Overall for banks under IIFL Securities’ coverage, Treasury income was up by Rs2.2 billion in the quarter (loss of Rs94.8 billion in Q1FY23). Banks have also started to witness a benefit on the interest income side, driven by higher yield on investments. High opex remained a drag on earnings in the quarter, as Banks continued to invest in their franchises and tech capabilities. Overall, analysts at IIFL Securities have raised opex estimates by 5-7% over FY23-25 for Banks under coverage.

Asset quality improvement keeps credit cost benign

GNPA ratios across banks improved for a fifth straight quarter and were lower by 5-95 basis points sequentially. This was led by a sequential moderation in slippages and better recoveries/upgrades. Restructured book decreased sequentially for Banks under coverage, and stood at ~0.3-2.1% (barring CUBK and EQUITASB). Large banks maintained high PCR (72-81%). Banks also maintained their additional provision buffers, at ~80-210 basis points of loans, barring Kotak Mahindra Bank at 65 basis points that has written-back provisions over the last four quarters.

Strong quarter overall; earnings upgraded across the board

Overall, banks reported a strong quarter with ~16-40% year-on-year growth in core PPOP for large Private Banks and aggregated credit cost at 0.6% for Banks under coverage. Going forward, loan growth is expected to retain momentum and full flow through of interest rate hikes should aid margins in the short term. As the cost of funds catch up in FY24 and share of lower yielding corporate loans increase, margins should decline from Q4FY23 levels. Opex is likely to remain elevated, and credit cost is likely to remain benign. Banks witnessed across the board earnings upgrades, barring exceptions (highest upgrades for Bank of Baroda/Axis Bank).