Analysts see limited impact on banks' earnings after RBI move

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Moneycontrol Bureau

After banning legal tender status of Rs 500 and Rs 1,000 notes since November 8, there has been a huge surge in banks' deposits. To reduce that surplus liquidity available with the banking system, the Reserve Bank of India, on last Saturday, announced temporary measures by applying an incremental cash reserve ratio.Bank Nifty fell 1.7 percent intraday to 18187.40, the lowest level since July 8. State Bank of India, ICICI Bank, Bank of Baroda and PNB fell 2-5 percent in early trade but managed to recover half of losses later on. Axis Bank and HDFC Bank turned positive.

The central bank expects magnitude of surplus liquidity available with the banking system is expected to increase further in the fortnights ahead. Banks so far garnered more than Rs 6 lakh crore in deposits after demonetisation. The last date to deposit old notes is December 30, 2016.

"The CRR remains unchanged at 4 percent of outstanding net demand and time liabilities (NDTL). On the increase in NDTL between September 16 and November 11, scheduled banks shall maintain an incremental CRR of 100 percent, effective the fortnight beginning November 26, 2016," the Reserve Bank of India said in its press release.

It further says this is intended to absorb a part of the surplus liquidity arising from the return of specified bank notes to the banking system, while leaving adequate liquidity with banks to meet the credit needs of the productive sectors of the economy. It will review this measure on December 9, the day of next policy meet.

Brokerage houses expect this surprise move by RBI to suck out more than Rs 3 lakh crore liquidity from the banking system. They see limited impact on banks’ earnings.Other intention of the central bank may be to support government bond yields that fell below repo rate on last Friday, they say.

Nomura says the RBI move is marginally negative for banks as it will lead to a negative carry on Rs 3.25 lakh crore of deposits and possibly some pull-back in treasury yields.

Hence, banks, especially PSU banks that have rallied in the past two weeks, will see some near-term correction, it feels.

However, the brokerage house doesn't see any reason to turn negative on banks beyond the initial negative reaction as the net interest margin impact will be temporary and that too of just 2 basis points on FY17 NIMs. It says while government securities downtrend could get limited in the near term, it does provide macro stability, especially to the currency and this move does not have any bearing on SME/LAP asset quality risk that could manifest due to demonetisation.

Bank of America Merrill Lynch also says effectively, this does not materially impact banks in a big way. The impact due to this is around Rs 750 crore for the whole system or around 1 basis point from margin standpoint.

Assuming CRR move stays, the brokerage house says it could see partial reversal in bond yield gains and if recent CRR move is extended, then it may make bank lending rate cuts harder to come by.

"Incremental cash reserve ratio effectively means that the CRR requirement has moved up to 7 percent of deposits from 4 percent currently, back to levels seen in 2007-08," Goldman Sachs says, adding this is incrementally negative for the system as it would already have an impact on profitability due to a lower loan-to-deposit ratio (LDR) and limited scope for further capital gains on the bond portfolio of banks.

It believes banks will need to revisit their deposit rates aggressively, or raise lending rates to offset the impact which looks less probable, given sluggishness in credit demand.

Deutsche Bank says the immediate reaction of banks would be to cut deposit rates, especially retail term deposit sharply – maybe by 50-100 bps, to reduce the cost drag and MCLR (marginal cost of funds based lending rate) reduction could be pushed back (or will be lower than deposit rate cuts), as the increased negative carry on CRR may allow MCLR to be kept high.

This should limit the NIM decline, but a likely slower near term growth will be net negative for the banks, it feels.