Mumbai: State Bank Of India (SBI) hopes to receive an injection of up to $2 billion from India’s cash-strapped government this fiscal year, but investors continued to dump shares in the country’s dominant lender a day after Moody’s cut its standalone rating.

The bank, which is 59% state-owned, has since last year sought as much as rS 200 billion ($4 billion) from the government through a rights issue, but New Delhi has yet to commit fresh capital.

A file photo of a State Bank Of India, South Extension branch, New Delhi

India’s fiscal position is worsening as it has been unable to sell stakes in state companies. The government unnerved bond investors last week by announcing additional market borrowing for the second half of the current fiscal year.

“The government is resource-constrained," said Krishnan ASV, an analyst with Ambit Capital, who has a sell rating on SBI. “We are in a weak economic growth environment, tax collections haven’t been that great. So, it’s not like government doesn’t want to give. They don’t have the funds," he said.

On Tuesday, ratings agency Moody’s Investors Service downgraded SBI’s “Bank Financial Strength Rating" to D+ from C- on a scale of A to E, citing low Tier 1 capital, its recent failure to raise capital and worsening asset quality.

SBI’s market value has fallen to about $22 billion after this week’s selldown.

India’s fiscal woes are exacerbated by political turmoil in New Delhi, where a government weakened by a spate of corruption scandals has failed to push through a reform agenda aimed at attracting investment to ease inflationary bottlenecks in Asia’s third-largest economy.

Data released last Friday showed India reached 66% of its full-year fiscal deficit target in just five months, and the current account deficit widened to $14.1 billion in the June quarter, compared with $12 billion in the same period a year ago.

Bad loan blues

SBI, which accounts for one quarter of lending in India, has been reeling under higher provisions for bad loans and lower profits in the last two quarters.

SBI’s non-performing assets reached a three-year high of 3.52% as of 30 June. Punjab National Bank (PNB), the second-largest state bank, had a non-performing asset ratio of of 0.86% at the end of June.

SBI expects surpluses earned during the year, apart from government funds, to help boost its Tier-I capital to 9%, Chaudhuri said.

Its Tier 1 capital was 7.6% at the end of June, below the government’s pledged 8% target in state banks.

On Wednesday, SBI shares fell to their lowest level since August 2009 before closing down 3.85% at 1,718.4, dragging the broader market into negative territory. The shares fell as much as 6% on Tuesday following the downgrade, and are down more than 51% from a peak hit last November.

The sell off in SBI continued on Wednesday despite Chaudhuri’s efforts to allay fears of any “significant" impact from the downgrade on its borrowing costs, with medium-term note borrowing costs likely to rise just 1-2 basis points and net interest margins still robust.

The fall in its share price means higher equity dilution for a rights issue, the size of which, Chaudhuri said, will depend on the contribution of minority shareholders as well as the surplus generated by the bank’s operations.

“Recapitalization, we are hopeful, will be completed by the end of December 2011 and at the most, if it is stretched, it will go to March," he said.

Last month, SBI doubled its overseas borrowing target to $10 billion, and Tuesday’s rating cut could make its fund-raising more expensive and squeeze margins at its overseas operations.

SBI has outlined to the government scenarios under which it would need 140 billion to 210 billion ($2.84 billion-$4.26 billion) of state capital over five years, and would be “comfortable" with 30 billion to 100 billion of fresh government capital in the current fiscal year, Chaudhuri said.

Brokerage Edelweiss, which has a hold rating on the stock, said it has been “wary of the stock for the past six months" due to “asset quality woes" and a thinning capital cushion, but the steep fall in its share price makes its valuation “favourable". Another brokerage, Kotak Securities, does not see capital as an “immediate risk to growth."

“The bank is reasonably capitalised to fund loan growth of about 16% levels," said Kotak, which has a buy rating.