The banking industry is the flavour of the season, with several banking stocks receiving upgrades from brokers over the past month. There has been high demand for these stocks, even from foreign investors, in Q2FY23. The recent run-up in share prices of stocks in the BFSI space and the upswing in Indian markets despite a global slowdown have encouraged investors.

The Nifty Bank index has risen more than 18% in the past year with Nifty PSU Bank, usually an underperformer, rising 61%. On December 6, the index rose 2.2% in an otherwise weak market.

Private banks outperformed themselves in Q2FY23 with significant improvements in profit, asset quality and advances. However, PSU (public sector unit) banks are yet to catch up to the stellar numbers of private banks.

Some major PSUs like Canara Bank and Punjab National Bank still carry a significant amount of NPAs which reflect in their high GNPA ratios. However, interest income has increased, margins have improved, and credit costs are lower.

Provisions on the higher side, no dent in net profit

PSU banks increased their provisions in Q2FY23 to enable the restructuring of loans (where bankers make changes in loan conditions to avoid the loan turning into an NPA) and reduce slippages, given the surge in credit growth. Banks are being cautious in their approach and are already cushioning their assets as advances are increasing in both domestic and international markets.

The PSU banking industry has seen its net profit rise on a YoY and QoQ basis, except for Punjab National Bank. Punjab National Bank’s net profit fell 62.8% YoY to Rs 411 crore in Q2FY23 because of the amortization (the process of writing off a bad asset) of a fraud account worth Rs 651.2 crore. The bank was supposed to carry over the amortization till Q3FY23, but it will be accommodated in Q2 to free up the bank from carrying over the amount. With this, it may see better earnings in Q3FY23.

State Bank of India (SBI) and Canara Bank reported an increase in net profit by more than 70% YoY because of a rise in non-interest income by more than 8% YoY. SBI’s QoQ net profit growth is impressive as it grew almost 2.2X to Rs 13,265 crore. However, on an equally surprising note, the banks reported an increase in their provisions in Q2FY23, with the exception of Bank of Baroda. The increase in provisions is because of the restructuring of loans and SBI has kept nearly Rs 900 crore (30% of total provisions) towards it.

Bank of Baroda managed to reduce its provisions as its slippages fell to Rs 3,479 crore in Q2FY23 from Rs 5,223 crore in Q2FY22. Reduction in slippages is a healthy sign for the bank as this means that fewer loan accounts are moving into the NPA bucket.

Interest income rises on better credit growth, improves margins

This festive season saw an increase in demand for goods and services in both urban and rural areas. The demand was strong, especially from sectors like auto, hospitality and construction in comparison to the past two years. The positivity shows up in PSU banks’ income as they see a steady rise in net interest income (NII). Bank of Baroda reports the highest growth in NII as it rose 34.5% YoY to Rs 10,174 crore.

Canara Bank and SBI’s NII rose on account of credit growth across segments and asset quality improvement. SBI sees an increase in advances in the retail, corporate and SME segments with higher growth in the corporate segment (21% YoY). Large corporate loan accounts also increased. Retail loans rose by 19% YoY with home loans growing by 14.5% YoY and auto loans improving by 17%. SBI’s Chairman Dinesh Khara says, “Two-wheelers, three-wheelers and motorcycles have shown an encouraging trend.”

Bank of Baroda saw decent growth in the home loan and mortgage segment, given that it had been struggling with this segment in FY22. Managing Director and CEO Sanjiv Chadha says, “Home and mortgage loans were areas of concern for us. We were not growing in line with the fastest in the industry but the segment is up nearly 20% now.” Canara Bank saw the most loan growth in the agriculture and corporate segment at 21.6% and 24.7% YoY respectively.

However, on digging deep into the books of SBI, Bank of Baroda, Canara Bank and Punjab National Bank, we see their credit growth coming in from sectors like infrastructure, aviation and airports, and petroleum and petrochemicals. Reports suggest that the Centre spent Rs 1.75 lakh crore in capex in Q1FY23, a 57% YoY increase and Rs 3.4 lakh crore in Q2FY23, a rise of 49.5% YoY. PSU banks are likely to see a continuous increase in their credit activity with the Centre’s push. A report from Motilal Oswal suggests that the government capex will drive corporate loan growth in H2FY23.

With an increase in NII, banks also saw a rise in net interest margins. However, Canara Bank’s NIMs have shown the lowest growth among banks, with only a 9 bps YoY rise to 2.86%. However, Canara Bank’s management gives a guidance of reaching 2.9% NIM for FY23. Punjab National Bank shows decent growth of 66 bps YoY to 3.1% as its NII also surged 30% in Q2.

An increase in NIM is a good sign as the banks are likely to earn more. Also, since the loan mix is diversified, banks are ready to face any contingencies or hurdles that may come their way. Bank of Baroda says that even if retail loans slow down, they will cover up the loan growth through their corporate books. CEO Sanjiv Chadha adds, “Now, as pricing power is returning, I think there is scope for us to increase corporate books substantially.”

Asset quality improves but lags behind its private peers

Most private and PSU banks have shown significant improvement in asset quality. PSU banks reported a fall in gross NPA ratio (GNPA) by more than 100 bps YoY in Q2FY23, mainly because of better recoveries and a lower slippage ratio.

However, State Bank of India’s asset quality remains the best in the industry compared to the low single-digit numbers reported by private banks. SBI’s gross NPA is down as its GNPA corpus reduced by 13.8% to Rs 1.06 lakh crore and the slippage ratio fell to 0.86. Bank of Baroda also reports a fall in GNPA account by 22% YoY. Canara Bank’s NPAs also reduced because of lower slippages and higher recoveries from the NPA accounts.

Punjab National Bank also reports a fall in GNPA corpus by 13% YoY. However, its agriculture account has seen a rise in gross NPA by 14% to Rs 27,019 crore. Even its car and vehicle loan segment has seen a rise in GNPA by 2.7%. The bank also says that the rise in agriculture NPA is because of the government’s debt waiver. Atul Goel, MD & CEO of Punjab National Bank, says, “Because some state governments have already announced the debt waiver, customers are not making  payments.”

Analysts are excited about PSU bank's growth

In a recent report by Morgan Stanley, the global brokerage raised valuation and earnings estimates for PSU banks like State Bank of India, Bank of Baroda, Canara Bank and Punjab National Bank. It expects credit costs to lower over the next few years. Also, the brokerage says that PSU banks’ margins over FY22-24 will be better than its private peers. The brokerage has given a target upside of 28% for Bank of Baroda and 18% for SBI.

This is in line with the performance as Nifty PSU rose 38% in the past three months. All PSU banks outperformed the Nifty 50 index. Reports suggest that Nifty PSU is outperforming the Nifty 50 index by a huge margin. Nifty PSU Bank rose 60% in the past year while Nifty 50 rose 8%.

PSU banks have a large branch network. With increasing demand, these banks may be better placed to improve their credit growth. SBI’s Chairman Dinesh Khara says, “The banking sector will not find it challenging to continue growing the credit book at the current pace as long as the risk is understood and well-priced.” Motilal Oswal and ICICI Securities expect the banking sector to perform well for FY23 and advances to grow by 21% YoY. The party may just be starting for this once-underperforming sector.

This analysis by Trendlyne is meant for investor education - to help understand companies and make informed investment decisions on their own. It should not be considered an investment recommendation.