Banking Q2 earnings: Three things to watch out for
Higher treasury gains, bad loan recoveries and lower cost of funds are expected to support second-quarter earnings for the banking sector
As the September quarter earnings season kicks off with Indusind Bank results on Wednesday, the banking sector is likely to see a sequential improvement in profits, albeit at a lower rate, as higher treasury gains, bad loan recoveries and lower cost of funds are expected to support earnings.
“We expect Q2FY17 to be a crucial quarter for banking and financial services (BFSI) as performance appears to have stabilized post three consecutive quarters of muted earnings,” said a 5 October report by Edelweiss India Equity Research. However, higher provisions against bad loans and fresh slippages will continue to put pressure on profitability.
Here are the three things to watch out for in banks’ earnings this quarter.
Asset quality pressures continue for the sector; however, no further shocks are expected from public sector banks this quarter as majority of bad loans have already been identified under RBI’s asset quality review which took place in third quarter of FY16. But provisions against bad loans will continue to be a big drag on PSU banks’ earnings even as they show lower slippages sequentially. According to a 5 October report by Kotak Institutional Equities, State Bank of India is expected to post a sharp 40% decline in net profit year on year due to higher provisions even as slippages will be similar to last quarter’s levels. However, the good news is that many of the PSU banks are likely to see higher loan recoveries in the second quarter. Private sector banks, on the contrary could see pressure on asset quality with ICICI bank and Axis posting higher fresh slippages and therefore increased pressure on earnings. According to a 5 October report by Motilal Oswal, “the key monitorable for banks would be the progress of the watch list accounts disclosed in 4QFY16.”
During the quarter, banks have benefitted from the fall in 10 year G-sec yield by 50 basis points to 7%. According to a 7 October report by Systematix Institutional Equities, “treasury profits of most banks are likely to be high, with the possibility of reversal of any mark-to-market losses (MTM).” Some banks like ICICI Bank are however expected to book higher gains on their sale of investments in strategic business and repatriation of capital from foreign operations.
Cost of funds
Net interest margins are likely to be stable as cost of funds for the banking sector has come down by 75-200 basis points over the last one year. “Banks with a higher share of bulk deposits are likely to emerge as key beneficiaries, as wholesale rates came off sharply in 1QFY17.” With credit growth remaining tepid at 9.3%, net interest income will continue to be under pressure. However, according to the Kotak report, outliers like Indusind Bank will see year on year loan growth of 25%, led by strong growth in retail business. For the overall banking sector, credit growth will continue to be the biggest challenge in FY17 as credit to industries is yet to see any pick up.