Banking growth, NIMs cause of concern: Deutsche Bank

By: | Updated: March 6, 2017 2:49 AM

Earnings estimates lowered as treasury gains could fall due to a sharp rise in bond yields

Over the past few quarters, treasury gains have been a key earnings driver for most banks, as banks continue to struggle with low growth, declining NIMs/fees and higher credit costs.

We see near-term impact on banks’ earnings; slow loan growth is likely to result in lower NIMs, while treasury gains—a key source of earnings—are also at risk after a 45-50bps spike in bond yields post the RBI policy. Reliance on treasury has been high recently, even as banks have used it to make high provisions. Post demonetisation, the rush of deposits was used to buy govt. bonds which may also be out of money now. Unlike in the past, higher bond yields are not associated with better growth and improving NIMs. Even asset resolutions remain slow. We cut earnings estimates by 3-8% for most banks. While all banks will be affected, PSU banks and Axis/ ICICI could be more at risk.

We continue to prefer growth plays, even as valuations are expensive

We remain biased towards growth, and prefer high growth, even if it comes at a high premium. We cite Yes, Indusind Bank and HDFC Bank as our top picks within banks. Within value, we like ICICI Bank—while growth should be slow, we find that valuation at 1.1x FY18E P/B remains extremely attractive.

Slow loan growth; deposits used to buy SLR investments

Post demonetisation, the banking system witnessed a sharp surge in deposits, which were used to buy bonds by almost all banks. Deposit growth in Q3 was 3-10% q-o-q for banks, driving growth in the investment book to 10-30% q-o-q. System loan growth at 5% remains extremely weak. While banks bought GSecs at yields of 6.2-6.4%, the yields are currently at 6.9%. Also, investment yields for most banks have now come down to nearly 7% and it is very likely that incremental bond gains will be limited.

Reliance on treasury gains is high; FY18 earnings at risk

Over the past few quarters, treasury gains have been a key earnings driver for most banks, as banks continue to struggle with low growth, declining NIMs/fees and higher credit costs. For PSU banks, treasury gains have been 70-650% of PBT over last few quarters. In FY17, banks are likely to book about 1.5-2.5% of investment book as gains following a strong FY16, benefitting from lower rates. Even for FY18, we are currently building in 0.7-1% of the investment book as gains. However, with bond yields now moving up, this may be at risk. PSU banks, especially smaller banks, are more exposed.

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Higher bond yields not associated with higher growth and improved NIMs

Unlike in the past, rising yields are currently not accompanied by improving loan growth. Even NIMs should remain under pressure for FY18 and we expect weaker operating earnings for banks. With likely weak treasury gains, consensus estimates could be at risk, particularly for PSU banks.

Asset resolutions are weak

Based on our latest discussions, asset resolutions are likely to remain slow and it could be a while before banks start to witness some recoveries. With the old NPLs now ageing, provisioning and credit costs are likely to remain high for banks.


We value banks’ lending businesses on a two-stage residual income model. Key risks are a lower NPL formation and faster loan growth. We reduce our earnings for FY18E as we factor in lower treasury gains now. We reduce our earnings forecasts by 3-8% for most large PSU and private banks.


Axis bank: A sharp decline in interest rates leading to pressure on NIMs, and higher-than-expected slippages due to further weakening in economic conditions.

Bank of Baroda: The key downside risk is volatility caused by treasury, which has been a recurring issue in the past.

Bank of India: Lower credit costs than estimated if the bank were to report lower incremental slippages and higher-than-expected loan growth resulting in better earnings.

HDFC Bank: It is critically dependent on the spread of branch network to keep the cost of liabilities low. Any obstacle in that path can mean that margins can slip or asset growth can slow. Risk levels of the large unsecured retail book of HDFC Bank are also high.

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