Asset quality outlook of Banks has improved, says Motilal Oswal. Steady NII growth and controlled opex drive earnings Q2 FY21 has been an exciting quarter for the sector. The asset quality outlook appears to be better than was initially feared as collection efficiency improved sharply in Q2 and most banks guided for low restructuring levels. Motilal Oswal also saw an uptick in NII growth, aided by improved cost of funds and recovery in retail disbursements, with certain segments reaching pre-COVID levels. SME lending was supported by the Emergency Credit Line Guarantee (ECLG) Scheme. Many banks thus reported a sequential uptick in loan growth. Deposit growth was strong, with the CASA mix showing positive bias. Fee income, on the other hand, remained lower than usual.

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However, most banks reported a sharp sequential uptick as business activity picked up. Also, some banks prudently used their treasury gains to offset decline in other income, which, along with controlled opex, supported operating performance. On the asset quality front, slippages came in lower, aided by the SC order supporting asset quality ratios. The banks highlighted that no material deterioration was seen in proforma asset quality. Furthermore, they indicated that Q3 FY21 would see elevated slippages, while asset quality normalization may be expected from FY22.

Private Banks - Business growth improves QoQ; provisions remain elevated:

Most private banks reported strong NII growth, supported by a lower cost of funds. Banks such as Axis Bank, DCB Bank, Federal Bank, Kotak Mahindra Bank and SBIN saw a sharp sequential uptick in NII, while HDFC Bank, ICICI Bank and IndusInd Bank reported stable trends. Moreover, margins improved in the range of 6–30bp for banks such as DCB Bank, AU Finace BANK, AXIS Bank, Kotak Mahindra Bank and Federal Bank.

On the other hand banks such as HDFC Bank, ICICI Bank, IndusInd Bank and Bandhan Bank reported decline of 10 - 20 bps due to excess liquidity. Provisions remain elevated as banks continue to increase their PCR and create additional Covid-related provision buffers to further strengthen the balance sheet. Overall, with an improving asset quality outlook and recovery in the business, massive earnings upgrade trends were seen in banks such as AXIS Bank, SBI, ICICI Bank and Kotak Mahindra Bank, led by moderation in credit cost and improved operating performance.

Guidance highlights:

SBI: Expect recovery of Rs 70 bn over the next two quarters from the resolution of stressed assets. Moreover, expect restructuring up to 1% of loans, with a total asset quality impact of Rs 600 bn (2.6% of loans) due to the pandemic.

HDFC Bank: Overall, margins remain at 4.1 - 4.4% in the medium term. Also, there is long-term guidance for 3 - 5% improvement in cost ratios over the next few years, led by digital initiatives.

Kotak Mahindra Bank: The bank would now start focusing on incrementally increasing customer acquisitions on the asset side and seeking growth opportunities. There is room to further cut the deposit rate; however, the bank would take a call on this at an appropriate time and is not looking to cut rates further in the near term.

ICICI Bank: It expects corporate restructuring up to 1% of the total portfolio. Furthermore, it expects more downgrades in the BB & Below pool in the coming quarters. The bank expects the gradual deployment of excess liquidity and margins to therefore improve further.

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AXIS Bank: The potential restructuring pool is likely to account for 1.6% of customer assets (Retail and Corporate). Furthermore, expect further downgrades in the BB & Below pool.

Bandhan Bank: Management indicated an uptick in the Mortgage / Commercial Banking business with the opening up of new banking outlets; the target is to reach 30% each of total AUM by FY25.