State Bank of India (SBI) and ICICI Bank Ltd welcomed the New Year by hiking lending rates between a quarter and half percentage point, respectively. Investors responded by pushing their scrips down by 4.05% and 6.51%, respectively.
That is because these banks also increased deposit rates by up to one percentage point. SBI was raising deposit rates for the third time in three months, reflecting the tight liquidity in the system. Edelweiss Securities Ltd estimates that banks have increased their prime lending rates by an average 1.21 percentage points compared with nearly a 2 percentage points deposit rate hike.
Fearing compression in net interest margins (NIMs), investor sentiment has been decidedly negative on banking stocks in recent times. The Bombay Stock Exchange’s Bankex has underperformed the benchmark Sensex consistently since November.
The pressure on NIM is very real. As year-to-date deposit growth at 6% lags that of credit growth at 12.3%, banks have been forced to look at costlier sources of funding. Last month, some banks sold certificates of deposits carrying rates as high as 9.5%.
Graphic: Yogesh Kumar / Mint
However, the worst may be over. In its last mid-quarterly review, the Reserve Bank of India promised to buy bonds worth Rs48,000 crore in the month through 16 January. It also cut the portion of deposits that banks had to invest in government bonds by a percentage point. These have helped. One sign is that certificate of deposit rates have tapered to around 8.8% now. According to an Edelweiss report, the “banking system has experienced marginal relief from extreme conditions as reflected in net repo outstanding coming to negative of Rs1.1 trillion from a high of Rs1.6 trillion”.
Anyway, the liquidity crunch is not permanent. As analysts point out, the current situation is a special case when money has been sucked out of the system due to auctions of telecom and wireless spectrum. The government, which has been unwilling to spend money till now, will eventually pump it back into the system.
This could happen as early as the second week of February, some analysts say, coinciding with the end of the government borrowing programme for this fiscal year.
So have investors over-reacted and pummelled the stocks more than they deserve?
The Bankex now trades at 16.8 times trailing earnings and 2.8 times book value, way below the comparative multiples for the Sensex. The latter trades at 23.33 and 3.81 times, respectively.
Despite shrinking NIMs, banks are growing. Citigroup Inc. predicts a 23% growth in December-quarter profit for its banks’ universe over a year ago. Angel Broking Ltd, too, forecasts double-digit profit growth rates for many banks. As the economy continues to expand at least 8%, credit growth rates, too, are forecast to grow at more than 20%.
For those willing to wait it out, it may be time to reconsider their position on owning bank stocks. The kicker, of course, is whether lending rates that are reaching their pre-crisis highs will crimp credit growth, which has been galloping at 23% in recent times.