Banks face weak third quarter

But they may emerge stronger than NBFCs in three-six months

Just when banks are showing signs of improvement in profit over the June quarter, banknote ban could affect their earnings. "December quarter could be bad for banks," R Sreeshankar, head of research, Prabhudas Lilladher warns. "Business for banks and even for non-banking financial companies (NBFCs) could be disrupted in November. There could be a gradual improvement in December," he adds.  

While banks could see deposits rise from banknote ban, which replaces certain old notes with new ones, Vaibhav Agrawal, research head at Angel Broking, points out that loan growth could be hit in December quarter (Q3). This could affect banks in many ways. 

 

First, since cash transactions, particularly in Tier-II and Tier-III cities, may get affected, EMI (equated monthly instalments) payments to banks could fall. EMI is a fixed payment a borrower makes to a lender on the same date of each month. Also, if loan growth misses the target for Q3, net interest income (interest earned minus interest outgo) of banks may get weaker than expected. As a result, higher ratio of operating cost to operating income could affect net interest margin (interest earned minus interest outgo divided by earning assets).

Experts say if consumption is disrupted in the near to medium term, the impact could be worse. Also, analysts at Jefferies point out that in medium term, banks and NBFCs will need to navigate slowdown in retail consumption. They say banking stress in small and medium enterprises could increase, as SMEs typically pay lenders with cash, which is scarce now. Banks and NBFCs are often seen representing consumption; cash crunch due to banknote ban could mean a retail slowdown, say analysts at ICICI Securities. 

On flip side, as most banks have given customers debit and credit cards, big cities and Tier-II cities may see less fallout from banknote ban. But, it needs to be seen if a spurt in personal loans and credit cards can arrest weak demand for consumer loans, given that home loans account for 35-50 per cent of consumer (individual) loans for banks. 

"Most NBFCs and housing finance companies have aggressively given money to SME segment and loan against property (LAP) segment in the past few years. The estimated LAPs are Rs 2,50,000 crore or 20 per cent of total home loans. A large proportion of transactions in LAP and SME segments are cash-based. Also, business models of many SMEs are dependent on tax arbitrage generated by cash transactions," says Jefferies. Analysts at Motilal Oswal Securities have a similar view. They say that even vehicle lenders may get affected. They say that a combination of all these factors could result in a slowdown in loan growth in the near term, leading to loan quality getting worse off.

But, all experts say this phase may be temporary. "Banks may emerge stronger in the medium to long term," Agrawal says. However, at this point, a switch to banks from NBFCs may be more rewarding. "Even if NBFC stocks have fallen significantly in the past two days, I wouldn't take fresh exposure in any of them till there is clarity on how they managed business in December quarter," says an analyst at a foreign brokerage.