PSU banks are back in business—and their stocks are stealing the show
After years of ceding market share to private rivals, India’s state-owned banks are staging a comeback, riding on double-digit loan growth, tighter balance sheets, and hopes of higher foreign investment. But pressure on margins and global headwinds could test the rally’s durability.
There is renewed optimism among investors in public sector bank (PSB) stocks. Over the past six months, the Nifty PSU Bank index has risen nearly 20%, outpacing the Nifty Private Bank index—which is up just 4%—by a wide margin.
The spotlight on PSBs has brightened after reports suggested the government is considering raising the foreign investment cap in state-owned banks from the current 20%. This anticipation is adding fuel to the rally. Beyond sentiment, improving operational parameters have also strengthened the earnings outlook for PSBs.
An analysis by Systematix Shares and Stocks (India) of 15 banks—seven private and eight public—showed that PSBs staged a sharp turnaround in FY25, after their advances (loan) market share dropped from 74.9% in 2011 to 51.8% in 2024. “For the first time since March 2010, PSBs recorded 12.2% year-on-year growth in advances in FY25, outpacing that of PVBs at 9.5%," it said in an 18 September report.
PSBs also boast a robust liability profile, with household deposits forming 67.6% of the total versus 52.1% for private banks. A stronger provision coverage ratio and tighter control of gross slippage ratios have helped narrow the asset quality gap between the two, the report added.
Margins under pressure
Still, not everything is smooth sailing. In the near term, a key monitorable is the likely pressure on net interest margins (NIMs) as repo-linked loans are repriced following the Reserve Bank of India’s rate cuts.
In the September quarter (Q2FY26), State Bank of India (SBI), Union Bank of India, and Indian Bank expect some sequential NIM compression. Bank of Baroda (BoB) has guided for stable reported NIM, though core NIM could moderate slightly quarter-on-quarter. Punjab National Bank expects NIM to remain steady, while Canara Bank could face steeper pressure given its lower Casa (current account, savings account) ratio.
Even so, Motilal Oswal Financial Services noted that repricing of bulk deposits and certificates of deposit (CDs) at lower rates and replacing high-cost CDs with granular retail deposits should help mitigate the margin impact on PSBs.
Loan growth is likely to be healthy for most PSBs in Q2FY26 driven by their exposure to RAM (retail, agriculture and MSME) which has enabled them to regain credit momentum.
“Overall, BoB has guided for ~4% sequential growth, PNB, Canara, Indian Bank for 2.5% sequential while Union will likely post below-sector-growth. SBI will likely post ~3% sequential loan growth," said Nuvama Research report dated 22 September.
Tariffs, slippages and the road ahead
Asset quality is expected to remain stable, with no major slippages. SBI, BoB, and Indian Bank may see lower slippages, while others may see flattish slippages. Still, whether PSBs can sustain return on assets at 1% remains a key investor concern, Nuvama cautioned.
The second-order effects of US tariffs on MSMEs remain unclear, but for now, the impact appears manageable, particularly for larger banks. However, disruptions to supply chains and job losses could weigh on credit growth and raise credit costs for banks exposed to the sector.
According to Emkay Global Financial Services, MSME lending has been a crucial growth driver, accounting for over 35% of incremental lending by private banks in FY25, cushioning the slowdown in corporate and unsecured retail credit.
For PSBs, unsecured MSME loan growth is primarily led by collateral-free Mudra Loans, which, too, have seen higher delinquencies, but carry government guarantees to limit the loss given default (LGD), added the Emkay report dated 26 September. Since Mudra loans are domestically focused, they are less exposed to US trade-related disruptions.
Valuations remain supportive. Bloomberg data shows the Nifty PSU Bank index is trading at a reasonable one-year forward price-to-book ratio of 1.22x.
topics
