Smaller banks have it tough in a rising interest rate environment. They can’t accumulate lower cost current and savings account (Casa) deposits as much as they wish. The pressure on balance sheets and margins intensifies as they turn to bulk deposits and certificates of deposits (CD) in a desperate attempt to fund lending growth.
Things have got even tougher for Vijaya Bank. Fitch Ratings Inc. downgraded the bank’s outlook to negative, citing “increased dependence of wholesale funds”. At the end of fiscal 2011, 44% of the bank’s total deposits came from bulk deposits and a quarter from Casa.
The rating company said that the bank has increased its share of short-term CDs to play on the yield curve. While three-month CD rates are not quite at the 10% levels seen in February and March, they are holding firm at around 9.5%. Being short-term instruments, they have to be renewed frequently and rates may inch up as liquidity tightens further.
Besides, demand for CDs may be subdued in the coming months as mutual funds may be reluctant to invest, following a Reserve Bank of India directive asking banks to limit their exposure to debt funds. That, of course, will put further pressure on rates.
Vijaya Bank’s new chairman and managing director H.S. Upendra Kamath has made the right noises. In a recent press conference, he said that he wanted to increase the Casa proportion to 30% of total deposits over the next two years.
That is easier said than done. Branch expansion at state-owned banks happens at a slower pace. Tactics such as increasing the ATM network and introducing facilities such as real-time gross settlement will only help so much in increasing low-cost deposits.
The other option is to reduce the size of the balance sheet. But that has to be ruled out since the bank wants to grow faster than the industry rate.
Thus, net interest margins, which already slipped 62 basis points sequentially in the fourth quarter ended March, will be under further pressure, especially in a rising interest rate environment.
That, coupled with lingering concerns on asset quality despite a restructuring in the fourth quarter, will continue to dampen investor interest in the stock.
One basis points is one-hundredth of a percentage point.
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