Bond markets have rallied sharply since end-March - both at the long and
short end. This has not been transmitted to loan and deposit rates yet – but
that looks likely now. We see NBFCs, wholesale-funded banks and PSU
banks as the key beneficiaries, in that order – driven by bond profits and
lower funding costs rapidly transmitting to NIMs. PSU banks benefit –
M2M gains on long bonds and the (we think) inevitable easing of deposit
and lending rates. We see the sector continuing to outperform - our
favorite plays are HDFC, LIC Housing, Yes and SBI.
Rates down sharply. Interest rates have been declining since mid-Feb
and the pace has accelerated from April. The entire curve has shifted
down ~50bp since early April across both gilts and corporate securities –
bank CD rates are down 100bp in the same period. This has not had an
impact on lending and deposit rates as yet – but we think this is
inevitable in the coming weeks. The gap between base rates and AAA
yields has now widened to unsustainable levels.
Key winners - wholesale borrowers. The most direct beneficiaries are
NBFCs – cost of funds is coming off fairly sharply. The NIM impact is
being accentuated by the stickiness in loan yields – primarily because
the rigidity in banks’ base rates has eroded competitive intensity. Loan
yields may come off, going forward, but we think the overall NIM
impact should still be positive. Among banks, the weaker deposit
franchises incrementally benefit the most – Yes, Kotak, IndusInd. The
banks should also see strong trading profits from corporate bond
books - Yes is a big winner on this front.
PSUs should benefit too. The bond yields benefit the PSUs on multiple
fronts - a) M2M gains on their bond portfolio, even if most of their
duration is in HTM and there are negative offsets from pensions b) the
ability to liquidate excess SLR and switch to lending – demand will be a
headwind here and c) lower deposit and lending yields as liquidity eases
in the system. Deposit cost benefits are likely to be lagged as most PSU
banks have cut their exposure to bulk deposits over 2HFY13. SBI is a
clear beneficiary as they have the lowest base rate – it could be the
quickest to switch out of bonds to loans for a NIM pickup.
Asset quality remains an issue. There is no visible pickup in
growth - indeed, one of the drivers of the bond market rally is the
weak growth environment which impacts both core inflation and
liquidity via weak loan demand. We, therefore, anticipate continued
weakness in asset quality, and believe that this could spread to private
banks – especially in the commercial portfolios like CV lending. This
could be a drag on some of the NBFCs and private banks, probably in
2HFY14 – unless rates fall sharply enough to trigger a growth revival.
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short end. This has not been transmitted to loan and deposit rates yet – but
that looks likely now. We see NBFCs, wholesale-funded banks and PSU
banks as the key beneficiaries, in that order – driven by bond profits and
lower funding costs rapidly transmitting to NIMs. PSU banks benefit –
M2M gains on long bonds and the (we think) inevitable easing of deposit
and lending rates. We see the sector continuing to outperform - our
favorite plays are HDFC, LIC Housing, Yes and SBI.
Rates down sharply. Interest rates have been declining since mid-Feb
and the pace has accelerated from April. The entire curve has shifted
down ~50bp since early April across both gilts and corporate securities –
bank CD rates are down 100bp in the same period. This has not had an
impact on lending and deposit rates as yet – but we think this is
inevitable in the coming weeks. The gap between base rates and AAA
yields has now widened to unsustainable levels.
Key winners - wholesale borrowers. The most direct beneficiaries are
NBFCs – cost of funds is coming off fairly sharply. The NIM impact is
being accentuated by the stickiness in loan yields – primarily because
the rigidity in banks’ base rates has eroded competitive intensity. Loan
yields may come off, going forward, but we think the overall NIM
impact should still be positive. Among banks, the weaker deposit
franchises incrementally benefit the most – Yes, Kotak, IndusInd. The
banks should also see strong trading profits from corporate bond
books - Yes is a big winner on this front.
PSUs should benefit too. The bond yields benefit the PSUs on multiple
fronts - a) M2M gains on their bond portfolio, even if most of their
duration is in HTM and there are negative offsets from pensions b) the
ability to liquidate excess SLR and switch to lending – demand will be a
headwind here and c) lower deposit and lending yields as liquidity eases
in the system. Deposit cost benefits are likely to be lagged as most PSU
banks have cut their exposure to bulk deposits over 2HFY13. SBI is a
clear beneficiary as they have the lowest base rate – it could be the
quickest to switch out of bonds to loans for a NIM pickup.
Asset quality remains an issue. There is no visible pickup in
growth - indeed, one of the drivers of the bond market rally is the
weak growth environment which impacts both core inflation and
liquidity via weak loan demand. We, therefore, anticipate continued
weakness in asset quality, and believe that this could spread to private
banks – especially in the commercial portfolios like CV lending. This
could be a drag on some of the NBFCs and private banks, probably in
2HFY14 – unless rates fall sharply enough to trigger a growth revival.
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