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Put in a subtle way, FY07 was a good year for banks. Despite the severe liquidity pressure post the repo and CRR (cash reserve ratio) hike, the money supply remained buoyant during FY07, expanding by 21% YoY, thus outpacing RBI's projections of 15% YoY growth. The growth was mainly driven by a sharp expansion in term deposits and surplus inflow of foreign exchange assets. Bank credit growth was 28% YoY in FY07. Having said that, the RBI’s reprimanding consistent CRR hikes and resistance to offer interest on the same took its toll on the sector.
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Mortgage loans (grew 32% YoY) comprised nearly 40% of the incremental retail credit in FY07. Despite the rise in lending rates, the fiscal benefits adhered to them kept mortgage loans relatively attractive. Banks also leveraged on the home loan portfolio to comply with their priority sector norms. However, the higher provisioning adhered to them acted as a dampener.
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A spurt in interest rates over the past year raised concerns over Indian banks' balance sheets in FY07. These banks took a substantial hit on their investment portfolios on account of the marked-to-market (MTM) provisioning of investments in the available-for-sale (AFS) category. Most banks transferred long-dated G-Secs to the held-to-maturity (HTM) category by taking big one-time provisioning hits over the last two years. This helped to insulate their income statements to an extent.
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Short-term liquidity crunch led to banks scurrying for high cost bulk and term deposits in FY07, even at the cost of narrow margins (NIMs). Thus, while the savings bank interest remained unchanged, the interest rate on deposits of up to one year soared to as high as 5.5% to 7.5% and those for one to two years are fetched upto 8.5% to 10.5% per annum.
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In FY07, the RBI recommended the revised and final Basel II guidelines, wherein, the foreign banks operating in India and Indian banks having operational presence outside India should migrate to the Basel II norms with effect from March 31, 2008. All other commercial banks have been encouraged to migrate to these approaches not later than March 31, 2009.
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While so far the non-banking companies have satiated their inorganic growth appetite by raising ECBs and FCCBs in the overseas markets, financial entities being partially handicapped in terms of foreign debt raising, have lined up their equity issues. Banking entities and financial institutions have already been the frontrunners in terms of secondary equity issues so far in FY08 and there are a couple of more to come. The total amount of the issuances is estimated Rs 396 bn (US$ 9.7 bn) of new equity and these offerings would dilute their equity capital at end of FY07 by 7% to 26%.
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Banks, especially the private sector ones, are likely to face penetration concerns. The lack of credit penetration and the geographic concentration of bank credit is evident from the fact that 5 states having the highest proportion of per capita credit enjoy 55% of the total credit disbursals in the country.
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RBI’s roadmap for the entry of foreign banks and the acquisition of stake by the foreign entities in Indian private banks seems to be a step towards facilitating entry of foreign banks into India. However, the same is set to aggravate the tussle for market share in the already fragmented sector.
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The approval for banks to raise capital by way of Tier III perpetual bands and hybrid capital has given the entities an opportunity to enhance their capital adequacy ratios before the Basel II compliances, without diluting promoter stake or taking in additional interest burden. The option of hybrid capital is seen to be increasingly leveraged by banks going forward to sustain their credit growth.
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