The September quarter earnings show that most banking players, especially the larger ones, held up well despite the coronavirus outbreak but experts say the sector is not completely out of woods yet.
Most large private banks reported improved net profits for the second quarter and a modest increase in bad loans, experts said.
Top private-sector lenders such as HDFC Bank, ICICI Bank and Axis Bank posted a strong sequential improvement in their profits. They also reported sequential improvement in their gross non-performing assets (NPAs) ratio.
The impact of staggered roll back of lockdown restrictions, or “Unlocking”, and resumption of economic activities is visible in the banks’ quarterly results.
The opening up of the economy also led to an improvement in loan repayment and a major reduction in the moratorium book but it may be too early to celebrate.
A clear picture of how COVID-19 hit the banking sector will emerge only after some quarters once the Reserve Bank of India's support wounds up.
According to experts, the challenges for the sector range from an increase in slippages from moratorium books, restructuring the percentage of the loan book to quality growth.
Devang Mehta, Head – Equity Advisory, Centrum Wealth Management, said the actual picture of the COVID blow to banks will only emerge over the next couple of quarters, as special dispensations provided by the RBI start to wind down.
The gross NPA numbers do not show the full picture of stressed accounts for private banks, he said. It is, however, important to remember that these banks have been providing aggressively during the first six months of this financial year.
Nirali Shah, Senior Research Analyst, Samco Securities has a similar view.
"Prima facie, it appears that the banking sector managed to tide through one more quarter amid the pandemic with healthy profitability and a modest increase in bad loans. But, the actual pain could emerge only after a few quarters when the special dispensations provided by the RBI start to dwindle," Shah said.
Shah sees a number of challenges.
"The top challenge is reporting of NPLs. Even though most banks have reported sequential improvement in their asset quality, the truth is that the reported NPAs may not have captured all the stress on the bank’s balance sheet. In fact, a proforma number has been reported as the apex court has asked lenders not to classify any new account as NPA after August 31, 2020. This will very well push the NPAs to a future date, causing banks to delay their provision requirement," Shah said.
Another challenge lies in the amounts reported as restructured loans, which are extremely small to date, he said. The true proportions of restructuring will emerge in the quarters ending December and March.
“Collection efficiency reported by banks is still running below their pre-COVID-19 levels, especially on the unsecured side which will be a key measure to watch out for going forward,” said Shah. The road ahead is challenging and a clear picture will be visible only in the quarters to come, he added.
As per the RBI’s June 2020 financial stability report, the bad loan rate is expected to climb to 14.2 percent in a severe stress scenario and 12.5 percent in a baseline scenario as of March 2021, which is a bit alarming. Due to standstill benefits banks didn’t recognise further slippages in Q2FY21 but in the next two-three quarters, NPAs are expected to rise.
The improvement in collection efficiency after the end of the moratorium on August 31 is positive.
"After the end of the moratorium on August 31, the improvement in collection efficiency has been ahead of our estimates with large banks on an average having a collection efficiency of 95 percent for the month of
September,” Jehan Bhadha, Assistant Vice President - Equity Research at Nirmal Bang said.
This figure is expected to improve further by the December quarter. With the encouraging collections, banks have started to accelerate disbursement growth which has reached pre- COVID levels, Bhadha said.
Should you avoid the sector?
The valuation of some of the banking stocks is cheap at this juncture while the outlook of some has improved. So, one can bet on select players from the sector.
Vinod Nair, Head of Research, Geojit Financial Services, said the banking sector is a value buy, given the inexpensive valuation and improved outlook in the long-term.
Valuation wise, the Nifty Bank is trading at a 1-year forward P/B of 1.7 times compared to it the last 3 year average of 2.3 times, he said.
The challenges have been factored in in the prices and financial stress will reduce as the economy and demand improve.
"For the short to medium-term, the sector is under concern given the weakening asset quality and low credit growth, adding uncertainties in analyzing and forecasting a fair book-value. But the sector is getting
back and reported better operational performance in Q2FY21, even though credit growth has to improve," Nair said.
"A complete change depends on when the pandemic will subside, which is expected during 2021. Hence, strong buying in the SIP method over the next 6 to 12 months is advisable to build a strong portfolio in banking services."
Nair's top picks are HDFC Bank and Kotak Mahindra Bank in the private space, Bajaj Finance in NBFC, Bandhan in rural and microfinance and IDFC First as an upcoming bank.
Jaikishan Parmar, Senior Equity Research Analyst at Angel Broking, is of the view that due to adequate liquidity and sufficient capital, large banks will gain market share. He has a positive view on ICICI Bank, Axis Bank, HDFC Bank, Kotak Mahindra Bank and IDFC First Bank.
Shah from Samco Securities said balance sheets of Kotak Mahindra Bank, HDFC Bank and ICICI Banks are likely better equipped to sustain the pain than PSUs in the months to come.
Mehta of Centrum Wealth Management also likes larger franchises, particularly HDFC Bank and Kotak Mahindra Bank, as they are equipped to handle difficult times and have the potential to gain market share from smaller players.
Bhadha of Nirmal Bang is bullish on ICICI Bank, Axis Bank and HDFC Bank.Disclaimer: The views and investment tips expressed by experts on Moneycontrol.com are their own and not those of the website or its management. Moneycontrol.com advises users to check with certified experts before taking any investment decisions.