Money & Banking

Indian banks will face capital erosion in a high-stress scenario: Fitch

Mumbai | Updated on July 27, 2020 Published on July 27, 2020

Fitch estimates that many NBFI issuers may experience negative near-term liquidity flow as long as collections remain depressed   -  Reuters

All Indian banks will face capital erosion in a high-stress scenario but state banks are the most vulnerable, as per Fitch Ratings’ stress test on banks it rates.

The global credit rating agency assessed that Canara Bank is the most challenged under its stress scenarios due to inadequate loan-loss coverage, while ICICI Bank is the least affected due to stronger capitalisation and better loss coverage relative to peers.

Fitch said many state banks are able to meet minimum regulatory thresholds under moderate stress, but most struggle to manage a 6.125 per cent common equity Tier 1 (CET1) ratio under high stress, the applicable bail-in trigger for additional Tier 1 (AT1) securities from September 2020.

As per Basel III capital regulations, a bank whose CET slips below 8 per cent due to losses and is still above 6.125 per cent – the trigger point for automatic loss absorbency or contractual bail-in – should seek to expand its balance sheet further only by raising fresh equity from its existing shareholders or market and the internal accruals.

Equity injections imperative

In this regard, the agency observed that fresh equity injections have become significantly more imperative for state-owned banks as economic recovery remains shaky due to continued acceleration in new coronavirus cases.

State Bank of India, Punjab National Bank, Bank of Baroda and Canara Bank are planning to raise up to $6 billion in total, adding about 100-150 basis points (bps) to their CET1 ratios even as execution risk remains high due to depressed equity valuations, it added. One basis point is equal to one-hundredth of a percentage point.

“We believe the state banks’ proposed capital raising from private sources is not going to be enough to fully mitigate anticipated risks. The state has not announced anything so far, but we expect some infusions eventually to support the banks’ capital-raising initiatives,” Fitch said in a report.

Private banks better placed

Fitch emphasised that private banks have better loss-absorption capacity in the stress test. Nonetheless, they are bolstering core capital with ICICI and Axis Bank planning to raise nearly $2 billion each in fresh equity in the near term, it added.

This capital raise should add 200 to 245 bps to their CET1 ratios, further widening the gap with state-owned peers, the agency said.

The agency noted that recent warnings from the central bank Governor and the absence of fresh state capital support have prodded many large state banks to consider raising their own funds, although the amounts planned are lower than their private counterparts.

Fitch said regulatory measures have been instrumental in deferring stress from hitting bank balance sheets. The probability of further near-term forbearance remains high if the economic impact of the pandemic is more severe than what the authorities currently envisage.

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Published on July 27, 2020
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