Moody's Investors Service and its Indian affiliate ICRA believe that the gradually improving operating environment for Indian banks will lead to slower additions to problem loans over the next 12 to 18 months. As a result, the banks' credit metrics will stabilize.
''While the stock of non-performing loans may continue to rise, the pace of new impaired loan formation in the current financial year ending 31 March 2016 will be lower than the levels seen in the past four years,'' said Srikanth Vadlamani, a Moody's vice president and senior credit officer.
"A meaningful proportion of stressed loans have already been recognized as impaired, while economic conditions are improving," Vadlamani added.
Moody's believes that capital levels, however, are low for public-sector banks. Such banks exhibit common equity Tier 1 ratios of only 6%-10%, and their coverage of non-performing loans with loan-loss reserves averages 55%.
By contrast, high capital levels are a credit strength of the private-sector banks that Moody's rates.
ICRA believes that over the next 12-18 months, the credit profile of public-sector banks as a whole will be driven by their ability to reduce stress on assets, improve earnings and shore up capital.
While public-sector banks reported some moderation in their bad-loan ratios during the first six months of the financial year ended 31 March 2015 (FY 2015), their holdings of weak standard assets represented 2.0-2.5 times their total gross non-performing assets.
Nevertheless, of these weak assets, only 25%-30% were classified as stressed.
On earnings, ICRA believes that credit provisioning by public-sector banks will remain elevated over the next 12-18 months, given that reported net non-performing assets totaled 3% of advances, and such banks' high levels of weak assets.
ICRA also believes that while credit growth for the public-sector banks may remain low until at least end-FY17. Such growth is still likely to outpace internal generation, thereby adversely affecting capital adequacy.
Moreover, with the capital conservation buffer requirement rising by 0.675% in FY17, public-sector banks may have to mobilize external Tier 1 capital to keep their Tier I capitalization levels in excess of the regulatory minimum of 8.25%.
"Public-sector banks will need around INR1.3 trillion in the form of equity or additional Tier 1 capital from the government during FY16-FY19 to maintain Tier 1 capital adequacy just above the minimum requirement of 9.5% as of March 2019, assuming annualized credit growth of 13.5%, a rate in line with the government's forecast," said Vibha Batra, ICRA's Group head of financial sector ratings.
"However, if the public-sector banks are only allocated the INR700 billion that the government said in July 2015 that it would inject into such banks over the next four years, credit growth will have to drop to 8%-10%," Batra added.
ICRA believes that as for private-sector banks, their credit profiles remain superior to that of their public-sector counterparts, on account of the better asset quality, earnings and capitalization that the private-sector banks exhibit.
While some large private banks may demonstrate significant exposures to vulnerable sectors, their better profitability and capitalization levels are likely to limit the impact of asset stress on their credit profiles.
On the operating environment, Moody's projects that India will record GDP growth of around 7.5% in 2015 and 2016.
Growth has been supported by low inflation and the gradual implementation of structural reforms. Moody's points out that an accommodative monetary policy should support the growth environment.
As for government support, Moody's believes that the Indian government (Baa3 positive) will continue to provide a high level of support to the banks.
For the public-sector banks in particular, Moody's expects that the government will not make any changes that would suggest the possibility of reduced support to or differentiation among the banks, because doing so could entail significant systemic risks.
