PSU banks may be bogged down by stressed assets, high credit costs; India Ratings cuts outlook

A spike in stressed assets, high credit costs, weaker earnings due to interest reversals and low fee income, and muted growth prospects may adversely affect the performance of PSU banks in the second half of the current fiscal. India Ratings and Research (Ind-Ra) has revised its outlook on the banking sector to ‘Negative’ for 2H FY21 from ‘Stable’. Ind-Ra report showed that the capital buffers for most public sector banks may remain modest, however, the spike in stressed assets due to pandemic is expected to double the credit costs for the banking system than estimated pre-pandemic levels for FY21.

On the other hand, the rating firm has maintained a ‘Stable’ outlook for private banks, saying that they are better placed to withstand the challenges presented by the pandemic. Most large banks have strengthened their capital buffers, built contingent provisions, and have been proactive in managing the loan portfolio, it added.

While the Reserve bank of India has announced a provision for loan restructuring to alleviate the stress, the report warned that the experience on restructuring has not been a pleasant one in the past. Citing an example from the fiscal year FY15 with peak standard restructured assets at 6% in FY15, the firm said that most of it slipped to non-performing categories. However, it believed that banks have a guiding framework this time and possibly with a better governance framework, and if the guardrails have properly adhered in spirit, the outcome of the restructuring process could be far more productive this time.

However, even under the best circumstances, it is expected that some restructuring may not achieve success and hence the overhang on asset quality and credit costs would remain elevated in the medium to long term. Meanwhile, in July’s Financial Stability Report, the RBI showed that the gross NPA ratio of all SCBs may increase from 8.5 per cent in March 2020 to 12.5 per cent by March 2021 under the baseline scenario. It added if the macroeconomic environment worsens, the ratio may further escalate to 14.7 per cent under the very severely stressed scenario.