Fitch Ratings has cautioned banks to re-examine loss assumptions as asset quality was under pressure, particularly in consumer loans that have grown rapidly in the past, due to the tightening bias of India?s monetary policy, together with increased consumer leverage and the appreciating rupee.
Banks, however, will continue to benefit from the growth opportunities in the economy given their dominant status as financial intermediaries – the strong investment cycle currently underway is the new growth engine for bank credit, Fitch said.
In a report titled ?Indian Banks – Annual Review and Outlook?, Fitch said that while the increase in the net income of Indian banks remained strong at 25% year-on-year, during the first half of 2007-08 (24% in FY07), on the back of loan growth and lower mark-to-market depreciation on government securities portfolios, the rise in net interest income was more sedate at 11% in first half of 2007-08 reflecting the pressure on net interest margins. The slowdown in loans growth in FY08, together with any increase in loan loss provisions, could therefore affect net income.
Non-performing loan (NPL) ratios will be under focus, particularly in consumer loans where rising interest rates and increased consumer leverage has affected borrowers? repayment capacity, leading to growing delinquencies in the unsecured loan portfolio, the report warned.
Asset quality in residential mortgage loans, that account for about half the retail loan portfolio, has held steady, but could be vulnerable if rising interest rates are accompanied by a correction in property prices. The appreciation of the rupee against the US currency could affect smaller exporters of textiles; banks have reportedly restructured some of their exposure to this segment in FY08.
The ability to raise timely capital could remain a key differentiator between banks, given that internal capital generation is unlikely to meet the requirements of growth in risk weighted assets, as well as the increased capital charge for operational risk and the need for government banks to make additional provisions for pension liabilities.
The larger private banks have demonstrated greater capabilities in raising capital in a timely manner. Preference shares have been added to the list of hybrid capital that banks can issue; however, credit spreads in the international markets (that have been the largest source of hybrid tier 1 capital for Indian banks) has dramatically widened since July 2007 following the global tightening of liquidity, forcing banks to postpone their plans to issue these instruments overseas. The need to access capital may come into sharper focus if the credit cycle deteriorates, which could well provide an impetus for consolidation.