The rapid improvement in financial metrics of banks seen over FY21-FY24 is likely to have peaked and is expected to reach an inflexion point in FY25, followed by further moderation in FY26, India Ratings & Research said today.

“Near- to medium-term challenges for the banking sector include managing elevated loan-to-deposit ratios (LDRs), the potential impact of draft norms on liquidity coverage ratios (LCRs), higher provisioning for the infrastructure sector, and the implementation of expected credit loss (ECL) norms,” said Karan Gupta, head and director of financial institutions at India Ratings.

“Profitability, while remaining healthy, is already at an inflexion point in FY25 and is expected to moderate further in FY26, with rising slippages and higher credit costs anticipated compared to FY24 levels, which were at decadal lows,” he said.

Credit, deposit growth

The rating agency said banks’ deposits will likely grow by 12-13 per cent in the current fiscal and next, with high competition in gaining low-cost current account and savings account (CASA). With system level LDR being highest over the past five years at 80 per cent, and term deposit rates near peak or peaking, the reliance on raising infrastructure bonds is likely to continue in the near term. Furthermore, the reliance on bulk deposits is likely to increase if the growth in granular deposits remains constrained, as credit growth, while being lower from recent peak, is still at healthy levels.

Credit growth, meanwhile, has lost some steam falling to 11 per cent in November 2024 from 21 per cent in December 2023, largely due to the base effect and lower growth in retail and non-bank finance company (NBFC) segments.

Accordingly, India Ratings now expects credit growth of 13 per cent-13.5 per cent for FY25 and FY26, but the mix is likely to change with a continued slowdown in lending to NBFCs and the retail sector.

The rating agency added that while there has been an increase in delinquencies in personal loans, credit cards, and microfinance segments, the stress is manageable due to lenders’ lower exposure to these segments.

NBFCs to see slower growth

India Ratings has maintained a neutral sector outlook and a stable rating outlook for non-bank finance companies (NBFCs) for FY26. However, it noted that after witnessing a phase of high reliance on the unsecured loan segment for achieving loan growth and to protect profitability, with increased regulatory oversight, NBFCs are now re-calibrating their business expansion plans to optimise the risk-adjusted profitability over the medium term.

“Consequently, India Ratings believes NBFCs’ loan growth would further decline in FY26 to 18.5% yoy (from estimated 20 per cent in FY25), and a more pronounced decline would be in the unsecured lending segment which includes personal, business and microfinance loans,” it said. Housing financiers, meanwhile, are likely to witness incremental higher value-led growth compared to volume, as seen from the disbursals data for both large ticket and affordable housing lenders.

Lastly, owing to the higher delinquencies in the microfinance institutions’ (MFIs) loan book, the rating agency has changed outlook on the MFI sector to deteriorating from neutral, while maintaining a stable rating outlook for FY26.

“The agency opines that there are multiple headwinds for the sector such as borrower overleveraging for both MFI loans and non-MFI loans, reduced centre attendance, high attrition at branch levels and instances of frauds, all leading to a higher operating and credit cost for the sector in the medium term,” it said.

Published on January 7, 2025