Moody’s upgrades outlook on Indian banking from ‘negative’ to ‘stable’

Global rating agency Moody’s has upgraded the outlook on the Indian banking system from “Negative” to “Stable” on the back of stabilising asset quality and improved capital.

The deterioration of asset quality since the onset of the Coronavirus (Covid-19) pandemic has been moderate, and an improving operating environment will support asset quality. The level of problem loans for rated banks has moved down from 8.5 per cent in FY19 to 7.1 per cent in FY21.

Declining credit costs as a result of improving asset quality will lead to improvements in profitability and capital will remain above pre-pandemic levels, the rating agency said in a statement.

The operating environment will be stable as the economy gradually recovers from the Covid-19 pandemic, said Moody’s. “India’s economy is expected to continue to recover in the next 12-18 months, with Gross Domestic Product (GDP) growing 9.3 per cent in FY22 and 7.9 per cent in the following year. The pickup in economic activity will drive credit growth, which we expect to be 10 per cent to 13 per cent annually,” the rating agency said.

Moody’s said that while weak corporate financials and funding constraints at finance companies have been key negative factors for banks, these risks have receded. The quality of corporate loans has improved, indicating that banks have recognised and provisioned for all legacy problem loans in this segment.

The quality of retail loans has deteriorated, but to a limited degree because large-scale job losses have not occurred, the agency added.

Capital to stay above pre-pandemic levels

The capital ratios have risen across rated banks in the past year because most have issued new shares. The capital adequacy ratio of rated Indian banks as a pack improved from 9.9 per cent in FY19 to 11.1 per cent in FY21, Moody’s data showed.

Public sector banks’ ability to raise equity capital from the market is particularly credit positive as it reduces their dependence on the government for capital.

However, further increases in capital will be limited because banks will use most of retained earnings to support an acceleration of loan growth, Moody’s added.

Profitability will improve on dip in credit costs

Banks’ returns on assets will rise as credit costs decline while banks’ core profitability will be stable. If interest rates rise, net interest margins will increase, but it will also lead to mark-to-market losses on banks’ large holdings of government securities, the agency added.

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