Sector Analysis Report for the Banking Sector

Overview of Indian Banking Sector

  • There are public sector banks, private sector banks, foreign banks, regional rural banks, urban cooperative banks, and rural cooperative banks, as well as cooperative credit institutions in India.
  • With a credit-to-Gross Domestic Product (GDP) ratio of 56%, India is much lower than most advanced economies or even China, where the ratio is 150-200%. Despite this, credit usage has surged over the past decade as a result of strong economic growth, rising disposable incomes, increasing consumer spending & more ease of access to credit.
  • The Indian banking industry is increasingly adopting an integrated approach to risk management. Banks have already adopted Basel II’s international banking supervision accord, and the majority of banks already meet Basel III’s capital requirements.
  • Financial sophistication and an increasingly dynamic business environment are driving the demand for custom exotic financial products. To capture market share, banks are developing innovative financial products and advanced risk management methods.
  • As a result of the government’s persistent efforts to promote banking technology and expand services to unbanked and urban areas, access to the banking system has improved over the years. In 2014, the Ministry of Finance launched the Jan Dhan Yojana, a financial inclusion program aimed at increasing access to financial services such as bank accounts, credit, insurance, and pensions in all parts of India.
  • In addition to the growing digital footprint in the Indian banking sector, digital influence has also grown. For fund transfers, Indian banks use Real Time Gross Settlement (RTGS) and National Electronic Funds Transfer (NEFT). Both of these methods have been added to the existing list of ways in which a company may pay dividends or other cash benefits to its shareholders and investors by the market regulator.
  • A key component of mobile banking is mobile payments, which have been enabled by the Reserve Bank of India (RBI). National Payments Corporation of India created a real-time instant payment system called the Unified Payments Interface (UPI) that operates by instantly transferring funds between two bank accounts on a mobile platform.

Key pointers to research the Indian Banking Sector

  • Supply
  • The Reserve Bank of India (RBI) controls liquidity.
  • Demand
  • Increased incomes are expected to increase demand for banking services in rural are as, therefore driving the growth of the sector.
  • Entry Barriers
  • Due to licensing requirements, investment in technology and branch networks, capital requirements and regulatory requirements, the cost is high. As trust is a major barrier to entry for new banks looking to compete with major banks, consumers are more likely to want one bank to hold all their accounts and service all their financial needs.
  • Bargaining power of suppliers
  • Very low as banks follow RBI regulations. In addition to investing in banks, customers have also hedged inflation by investing in riskier avenues.
  • Bargaining power of customers
  • Because of the large number of banks available and low switching costs, rates are high for creditworthy borrowers.
  • Competition
  • With the entry of foreign banks, the Indian banking industry has become more competitive. Consolidation has become increasingly attractive to banks as they can take advantage of better synergies, cost-cutting from economies of scale, and risk diversification. The RBI has also approved fthe establishment of small finance banks and payment banks, which will lead to more competition in the industry.
  • Threat of Substitutes
  • Loans, insurances, mutual funds, and fixed income securities are some of the many banking services that are also offered by NBFCs. Technological developments and the threat of payment method substitutes may also lead to substitution of some of the services provided by the banks
  • Key events for the banking sector during the financial Year 2020
  1. During FY20, credit growth was subdued in the banking sector. Bank credit growth fell from about 14.5% of the GDP at the beginning of the year to 6.2% by March 2020. Credit growth to industry decelerated to 0.7% in March 2020 from 6.9% in March 2019. Service credit growth was much slower, falling to 7.4% from 17.8% over the same period.
  2. While there was a drop in growth at the end of March 2020, deposit growth during FY20 was higher than credit growth. Through the year, the growth rate of total deposits to GDP was over 9%, but it dropped to 7.9% in FY20.
  3. The Reserve Bank of India announced in June 2019 that its retail customers can now purchase and sell foreign exchange via an electronic trading platform. The platform can be accessed by any bank customer who needs to buy or sell the US dollar against the Indian rupee on a cash basis, a tom basis, or a spot basis, subject to certain conditions.
  4. For the Indian economy, FY20 was an extremely challenging year. Monetary and fiscal policy measures were employed to counter the slowdown during the year. In a new liquidity management framework, the RBI began long-term repo operations to provide durable liquidity to banks.
  5. Additionally, the central bank implemented a new external benchmark regime for lending to speed up the transmission of policy rate cuts to bank lending rates. Over the course of the year, the Repo rate was cut by 1.85%, with a 0.75% reduction specifically to address the effects of the pandemic. 
  6. Several months before the Covid-19 pandemic, the RBI updated its guidelines for the resolution of stressed assets, allowing lenders to refer accounts to the Insolvency and Bankruptcy Code for resolution. Also, it amended the Insolvency and Bankruptcy Code to give financial creditors priority over operational creditors in the event of a liquidation.
  7. As of March 2020, the RBI initiated a moratorium on Yes Bank deposit withdrawals, followed by the implementation of a reconstruction program involving changes in management and capital infusions by several Indian banks. A further tier-1 bond was written down by the bank.
  8. Additionally, the government announced the amalgamation of 10 public sector banks into four major banks. The merger will take place on April 1, 2020. According to the scheme, Oriental Bank of Commerce and United Bank of India will become Punjab National Bank; Syndicate Bank will become Canara Bank; Allahabad Bank will become Indian Bank, and Andhra and Corporation Bank will become Union Bank of India. As a result of the past mergers, there are now 12 public sector banks (including SBI and its associates). 
  9. The central government announced an economic package worth Rs 20 trillion in May 2020 to provide liquidity and credit support to businesses during the pandemic, especially MSMEs, build farm sector infrastructure, and ensure livelihoods for migrant workers. In addition, major long-term structural reforms were also initiated.
  10. Additionally, the central bank announced a moratorium on all loans until August 2020, to help borrowers cope with cash flow issues. In addition, the RBI asked banks to refrain from paying dividends from retained earnings for FY20 in order to strengthen their capital position.
  11. Due to the national lockdown, asset quality (NPA) concerns increased with several sectors experiencing a halt of activity. As per the RBI’s Financial Stability Report, gross non-performing assets could increase to a two-decade high of 14.7% of total loans by March 2021. The gross NPA ratio was 8.5% of total advances as of March 2020. RBI reduced the mandated cash reserve ratio (CRR) by 1% for the first time in 7 years, provided banks with long-term liquidity facilities to purchase corporate bonds, and on-lend to non-bank financial institutions to avoid a liquidity crisis.
  12. Lakshmi Vilas Bank (LVB) was put under a one-month moratorium by the RBI in November 2020 after its financial position underwent a steady decline, with losses in the last three years eroding its net worth. It also announced the amalgamation of Lakshmi Vilas Bank and DBS Bank after putting LVB under a moratorium.

 Future Prospects Of Banking Sector

  1. The increase in per capita income in India will increase the share of the population that uses banking services. According to forecasts, the population of 15-64-year-olds is expected to grow strongly going forward, providing a boost to the number of bank customers. Households will also be able to increase their standard of living and increase their borrowing capacity as disposable income grows.
  2. The increasing income in rural areas will increase the demand for banking services in rural areas. Various government programs, including the MNREGA, which was made possible by the recent Jan Dhan Yojana, have increased rural income. It is projected that the real annual disposable household income in rural India will grow at a CAGR of 3.6% over the next 15 years.
  3. In addition to opening avenues for vast unbanked populations, the growing teledensity in rural areas also points to innovation in delivery. Operational efficiency will be improved in these areas through mobile banking, internet banking, and the extension of ATM facilities. Growing mobile banking could be a major influence on the banking sector.
  4. Smooth functioning agriculture depends on timely credit. Nearly 89.3 million farm households do not have access to any credit, either from institutional or non-institutional sources, and only one-eighth of farm households have access to bank credit. In rural areas, local money lending practices have interest rates well over 30%, so bank credit becomes a compelling alternative.
  5. The housing finance sector is expected to be another key growth driver for the banking industry. The demand for housing has been driven by rapid urbanization, falling household sizes, and easier access to home loans. In the low and mid-income segment, demand is three to four times greater than supply.
  6. Additional policy support in the form of private sector participation and a liquidity infusion would be helpful to the banking sector. Due to increased credit disbursal by private sector banks, significant growth in lending is possible in the private sector.
  7. The RBI’s credible monetary policies and healthy regulatory oversight can also help the industry to remain strong and stable.

 FAQ’s on Banking sector

Is now a good time to invest in the banking sector? How has the banking sector performed in the past decade?

Since the turn of the century, the banking sector has contributed significantly to the stock market’s growth, giving returns of over 200%. Since March 2020, the sector has been one of the worst-performing sectors, with a recovery only beginning in November 2020, once the Covid-19 vaccines were clearly defined.

Since both credit growth and margins are dependent on the growth of the economy and interest rates, banking stocks are closely tied to the economy. It is more likely for banks to have high non-performing assets (NPAs) when interest rates are high and the economy is underperforming, and vice versa.

Therefore, the best time to buy banking stocks is when interest rates start falling since banks’ cost of borrowing drops immediately while their interest charges on loans stay high and continue to fall.

The NIFTY Bank Index and the BSE Bank Index can be used to know more about the sector’s past and ongoing performance.

How can I find a list of banking stocks?

Information about the listed banks is available on the NSE and BSE websites. However, the amount of information on these websites can be overwhelming.

Check out our list of banking stocks for a more direct and concise view of this information.

Which banking stocks were the top performers over the last 5 years?

IndusInd BankHDFC Bank, and Kotak Mahindra Bank were the top performers over the last 5 years in terms of sales and profit growth.

HDFC Bank’s growth can be attributed to its long history of operations, comfortable capitalization levels, and stable top management team, while Indira Bank’s can be attributed to its innovative product offerings and unwillingness to compromise on asset quality.

Kotak Mahindra Bank has also done well due to its strict underwriting standards, strong risk management systems and processes, and rigorous collection measures.

How do banking stocks perform in terms of dividend yields?

Due to the fact that banks have to account for potential bad loans (NPAs), such provisioning generally lowers profits for the bank. Due to the fact that dividends are usually paid from the remaining profits after essential expenses have been met, not all banking stocks will lead you to handsome dividends.

Private sector banks tend to be relatively better at protecting assets against non-performing assets (NPAs), but do not pay high dividends, while PSU banks, being government-owned, pay healthy dividends but can be risky as far as NPAs are concerned.

What are the best banking stocks for shareholders?

The shareholder return is the amount of money an investor receives for holding the stock. When it comes to using equity funding to run its daily operations, profitability helps gauge an organization’s effectiveness. The Indian stock market is currently dominated by HDFC Bank, IndusInd Bank, and Bandhan Bank with the highest shareholder returns.

What are the best banking stocks to invest in right now?

In order to determine a company’s true worth, you need to carefully analyze financial data. A company’s financial ratios, on the other hand, can provide more information about the company’s performance.

For banks, the most common ratios are the Net NPA to Advances ratio and the Price to Adjusted Book Value ratio, which is Price to Book Value adjusted for NPAs per share.

  • Price to Book Value Ratio (P/BV) – It compares a firm’s market capitalization to its book value. P/BVs that are high indicate that markets believe the assets of the company are undervalued, and vice versa.

Notify of
Inline Feedbacks
View all comments
Would love your thoughts, please comment.x