Banks have to protect their net interest margins in FY24

The Reserve Bank of India may have taken a pause in the sustained repo rate hike it carried out since May 2022, but the commercial banks, caught between a strong credit offtake and a sluggish deposit growth, are left with a battling trying to protect their net interest margin (NIM).

NIM is a profitability indicator that approximates the likelihood of a bank thriving in the long haul. A Fitch report estimates that the Indian banks’ average NIM will contract by 10 basis points (bps) in the current financial year to 3.45 per cent, as compared to the 15 bps rise to 3.55 per cent it witnessed in FY23. However, it will remain well above the average level it saw between FY17 and FY22.

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In the earnings season around the corner, banks are expected to put out another quarter of strong numbers propped by loan growth and healthy asset quality. But the focus will be on NIMs and their management outlook, factoring in deposits’ mobilisation. The asset liability match (ALM) or mismatch, caused by slow deposit growth as against an aggressive credit climb, has been building pressure on the banks’ NIMs.

Thus far, the banks have been able to offset some of this pressure with full transmission of the repo rate hikes to home loans that (as of end-December) made up over 48 per cent of all floating rate loans. Question is whether the banks can continue to do so, especially at a time they are hopeful of expanding their loan portfolio.

In order to keep EMIs intact so they don’t burden the borrower, the banks have already stretched the tenure of home loans. Their ability to travel further down this road, to keep the NIM at the healthy 3 per cent or more, is limited. So now the banks are faced with waging a multi-pronged war to keep the NIM at the required level.

Talking to DH, Shiva Kumar, former MD of State Bank of Bikaner and Jaipur, pointed out, “Apart from deposit growth lagging credit expansion, RBI repo rate seems to have peaked. Any reduction in this rate now will lead to simultaneous transmission to the interest rates on loans.” But the deposits will take time to be repriced, awaiting their maturities. This will put pressure on NIMs, he underscored.

Provisional numbers released by some banks show remarkable credit growth with most lenders reporting double-digit numbers. On the other hand, deposit growth continues to lag, with the share of the low-cost current account, savings account (CASA) deposits showing another quarter of contraction. That is worrying for banks already seeing pressure on NIMs.

In some cases, balances from the low-cost savings deposits also shifted as savers sought to make the most of the higher rate. Currently, the country’s largest bank State Bank of India (SBI) is offering 2.7-3 per cent on savings deposits, whereas rates on its term deposits below Rs 2 crore, maturing in 1-5 years, range between 6.5 per cent and 7 per cent . Banks don’t pay any interest to current account holders, whereas in case of saving accounts, the interest paid by the bank is too low. Thus, a healthy combination of CASA always helps banks to keep themselves financially fit.

Since RBI initiated the tightening of interest rates, the banks’ weighted average domestic term deposit rate (WADTDR) on fresh retail deposits went up by 170 basis points (till February). In its Monetary Policy Report,the RBI noted that the transmission to WADTDR on outstanding deposits is picking up, albeit gradually, reflecting the longer maturity profile of term deposits contracted at fixed rates.

In the same period of May-February, the weighted average lending rate on fresh loans rose by 173 basis points. As discussed earlier, it is pertinent to note that full transmission of the rate hike to home loans disbursed since October 2019 (priced on external benchmark-based lending rates) helped banks offset the impact on NIMs.

Under the circumstances, banks are resorting to raising funds overseas. SBI’s board will meet on April 18 to consider fund raising up to $2 billion in the current fiscal via unsecured USD notes.

While headline loan growth numbers may moderate because of a high base, demand is strong. Bankers remain upbeat on loan demand during the second and third quarters of 2023-24 across the major categories of borrowers, according to RBI’s quarterly bank lending survey.

Deposit rates rose month-on-month in February. However, they continue to be lower than their pre-pandemic levels (as of March 2020) by around 40 bps, indicating the distance the deposit rates have yet to traverse to reach the pre-pandemic repo rate levels, let alone move past the same, a CARE Ratings study revealed.

RBI leaving the repo rate unchanged at 6.50 per cent, in its latest Monetary Policy Committee meet, means the loans, priced to external benchmarks (read repo rate), will also remain unchanged. Then again, though the apex bank has shared a hawkish outlook on future repo rate hike, lenders will have tread cautiously on adding to the rising costs to borrowers and impairing their ability to repay. As such, in February, the spread of the weighted average lending rate (on fresh housing loans) over the repo rate was 2.34 per cent compared to 2.63 per cent in September. This was done to ensure that borrowers can service loans on time and are not burdened.

One silver lining to the deposit rate hike is that it will automatically lead to an increase in the marginal cost of fund-based lending rate (MCLR). One-year and six-month MCLR is currently used to price corporate loans. Over 46 per cent of floating rate loans are currently linked to MCLR, cushioning some impact on the NIM.

Banks are also focussing on high-yielding unsecured loans such as personal loans and credit cards to offset the impact. The confidence of lenders to underwrite such risky but margin-accretive loans rests on improved data availability, better-than-expected behavior of borrowers during the pandemic and the low share of such loans in their books. They, of course, continue focusing on CASA deposits.

Winning the NIM game in FY24 will not be easy. Fourth-quarter earnings may shed some light on what the banks are thinking.