Fitch reaffirms negative outlook for banks on bad loans

Fitch Ratings today reaffirmed negative outlook on the country’s banking sector due to poor asset quality and weak earnings.

“The negative outlook reiterates our concern on fragile financial position of the banking sector. It also reflects our expectations of the ongoing weak asset quality, poor recovery and earnings in light of continued provisioning pressure that are emanating not just from the new potential NPLs but also from existing NPLs,” Fitch Ratings director (financial institutions) Saswata Guha told reporters here today.

In the report titled ‘2017 Outlook: Indian Banks’, it said the negative outlook on the banking sector suggests there may be more downside risks for bank Viability Ratings (VRs) if the risks of deteriorating asset quality and weak earnings are not counterbalanced by larger capital injections.

It said resolving asset quality and capital adequacy is particularly important for public-sector banks if they are to achieve the twin objectives of credit growth and regaining market access.

The rating agency said its outlook on asset quality will remain challenging for the next 12-18 months, with the stressed-asset ratio for the banking system reaching around 12 per cent in financial year 2016-17 as against 11.4 per cent in financial year 2015-16.

Fitch expects a small improvement in the sector’s return on assets (ROA) in the financial year 2016-17 as earnings will remain under pressure due to muted loan growth and high credit costs.

Talking about the capital, Fitch said public-sector banks hold the dominant share of stressed loans as their capital position has been historically weak.

The situation has worsened due to delayed recognition of stressed assets and high loan-loss provisions for the financial year 2015-16 due to regulatory rulings. “It has raised their standalone credit risks, adding to capital pressure at a time when progressively higher minimum Basel III capital requirements are being phased in,” the report said.

The risks for creditors will remain high until the banks raise additional capital.

The rating agency said it expects the banks’ core capital ratios to remain fragile but stable for the current financial year as the they respond to pressures of poor earnings and weak equity market access by slowing down their credit growth, as has occurred in the past.

The government’s earmarked sum of Rs 70,000 crore (USD 10.4 billion) capital injections into state banks through to financial year 2018-19 will help towards core capital stability, but it may not be sufficient to address the ongoing capital needs to meet required provisioning, support growth and ensure compliance with Basel III standards, it said.

“We estimate that Indian banks will require around USD 90 billion in new total capital by financial year 2018-19 to meet Basel III standards,” the report said.

The bulk of the capital requirement is concentrated in financial years 2017-18 and 2018-19.

Core equity accounts for more than 50 per cent, while the rest of the requirement is largely through AT1 debt capital instruments.

It said market appetite could continue to hamper the development of the cross-border additional tier 1 (AT1) market. “This is despite positive developments in September 2016 in the shape of the first cross-border AT1 issuance by the country’s largest bank SBI and the opening up of the ’masala bond’ format for such instruments,” the report said.

Fitch expects credit growth at around 10 per cent during the current financial year, given the overhang of stressed balance sheets, poor capitalisation and a high focus on recoveries.

The international rating agency also said the country GDP growth is likely to accelerate to 8 per cent in the financial year 2018-19 from 7.4 per cent in financial year 2016-17. “We believe that India will remain the fastest—growing country by far among the ‘Fitch20’ economies, with GDP growth likely to accelerate gradually from 7.4 per cent in FY17 to 8 per cent in FY19,” it said.

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