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Banking Sector Analysis Report 

[Key Points | Financial Year '23 | Prospects | Sector Do's and dont's]

India's Capex Comeback: Explore Small Cap Stock Opportunities

  • The Indian banking system consists of public sector banks, private sector banks, foreign banks, regional rural banks, urban cooperative banks and rural cooperative banks, in addition to cooperative credit institutions.
  • India's Credit-to-Gross Domestic Product (GDP) ratio is 56%, lower than most advanced economies or even China where it is in the range of 150-200%. However, demand for credit has surged over the past decade, aided by strong economic growth, rising disposable incomes, increasing consumerism & easier access to credit.
  • Indian banks are increasingly focusing on adopting integrated approach to risk management. Banks have already embraced the international banking supervision accord of Basel II, and majority of the banks already meet capital requirements of Basel III.
  • The increasingly dynamic business scenario and financial sophistication has increased the need for customized exotic financial products. Banks are developing innovative financial products and advanced risk management methods to capture market share.
  • Access to the banking system has improved over the years due to persistent effort from the Government to promote banking technology and promote expansion in unbanked and metropolitan regions. The Ministry of Finance launched the Jan Dhan Yojana in 2014, a financial inclusion program to expand affordable access to financial services such as bank accounts, credit, insurance and pensions in all parts of India.
  • Digital influence in the Indian banking sector has also grown due to rising digital footprint. Real Time Gross Settlement (RTGS) and National Electronic Funds Transfer (NEFT) have been implemented by Indian Banks for fund transactions. The market regulator has included both these payments systems to the existing list of methods that a company can use for payment of dividends or other cash benefits to their shareholders and investors.
  • The Reserve Bank of India (RBI) has taken several steps to enable mobile payments, which forms an important part of mobile banking. The National Payments Corporation of India has developed the Unified Payments Interface (UPI), an instant real-time payment system that works by instantly transferring funds between two bank accounts on a mobile platform.

How to Research the Banking Sector (Key Points)

  • Supply
  • Liquidity is controlled by the Reserve Bank of India (RBI).
  • Demand
  • Rising incomes are expected to enhance the need for banking services in rural areas and therefore drive the growth of the sector.
  • Barriers to entry
  • High, due to licensing requirement, investment in technology and branch network, capital and regulatory requirements. The role of trust also acts as a major barrier to entry for new banks looking to compete with major banks, as consumer are more likely to allow one bank to hold all their accounts and service their financial needs.
  • Bargaining power of suppliers
  • Low, as banks are subject to rules and regulations of the RBI. Customers have also hedged inflation by investing in riskier avenues besides banks.
  • Bargaining power of customers
  • High, for good creditworthy borrowers due to the availability of large number of banks and low switching costs.
  • Competition
  • High. With entry of foreign banks, competition in the Indian banking sector has intensified. Banks are increasingly looking at consolidation to derive greater benefits such as enhanced synergy, cost take-outs from economies of scale, and diversification of risks. The RBI has also approved for small finance banks and payment banks which will further increase competition in the industry
  • Threat of Substitutes
  • Loans, insurances, mutual funds, and fixed income securities are some of the many banking services that are also offered by NBFCs. Technological developments and the threat of payment method substitutes may also lead to substitution of some of the services provided by the banks

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Financial Year '23

  • With the latest sectoral break-up of credit data available till April 2023, credit growth was led by services (21.6% year-on-year) and personal credit (19.4% year-on-year). In addition, industry credit also showed an uptick in growth at 7.0% year-on-year.
  • Non-food credit growth stood at 15.4% compared to 8.7% in fiscal 2022, with incremental credit growth of Rs 18.2 trillion during the year.
  • Bank assets across sectors increased significantly since 2020. In FY23, total assets in the public and private banking sectors were US$ 1,553.57 bn and US$ 901.3 bn, respectively.

    Assets of public sector banks accounted for 59.24% of the total banking assets (including public, private sector and foreign banks).
  • Deposits of all scheduled banks collectively surged by a whopping Rs.1.98 lakh crore (US$ 24.32 billion) as on 5 May 2023, at a growth rate of 10.2%.
  • During the year, non-performing assets (NPAs) of scheduled commercial banks continued to decline, with gross NPA ratio at 5% and net NPA ratio at 1.3% on 30 September 2022, compared to a gross NPA ratio of 6.9% and net NPA ratio of 2.3% on 30 September 2021.
  • Restructuring of loans for the MSME sector impacted by the second Covid-19 wave under Resolution Framework 2.0 stood at 2.3% of total MSME advances as on 30 September 2022.
  • As of March 2023, the total number of ATMs in India reached 14,74,548. The number of on-site ATMs and Cash Recycling Machines (CRMs) stood at 1,21,894 and while off-site ATMs and CRMs stood at 96,243.
  • M&A Activity hit a record US$ 171 billion in 2022. In April 2022, India's largest private bank HDFC Bank announced a transformational merger with HDFC Limited. The merger marked the transformation of HDFC Bank into a financial services conglomerate that offers a full suite of financial services, from banking to insurance, and mutual funds through its subsidiaries. So far, the Bank was a distributor for these products.
  • In April 2022, IDFC also announced its plans to sell its Mutual Fund Business to Bandhan-Financial Holdings led Consortium for US$ 550.23 million (Rs. 45 bn).

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  • Rising per capita income will lead to an increase in the share of the Indian population that uses banking services. The population in the 15-64 age group is expected to grow strongly going ahead, giving further push to the number of customers in the banking sector. Growth in disposable income will also encourage households to raise their standard of living and boost demand for personal credit.
  • Rising income in rural areas is expected to enhance the need for banking services in rural areas. Programs like the MNREGA, which was further aided by the recent Jan Dhan Yojana, have helped in increasing rural income. The real annual disposable household income in rural India is forecast to grow at a CAGR of 3.6% over the next 15 years.
  • Soaring tele-density in rural areas also opens avenues for vast unbanked population and highlights scope for innovation in delivery. Mobile, internet banking and extension of facilities at ATM stations will help improve operational efficiency in these areas. The growth of mobile banking could impact the banking sector significantly.
  • Agriculture requires timely credit to enable smooth functioning. 51.4% of nearly 89.3 million farm households do not have access to any credit, either from institutional or non-institutional sources and only one-eighth of farm households avail bank credit. Local money lending practices in rural areas involve interest rates well above 30% therefore making bank credit a compelling alternative.
  • Housing finance is expected to be another key growth driver for the banking sector. Rapid urbanization, decreasing household size and easier availability of home loans has been driving demand for housing. Demand in the low and mid income segment exceeds supply three-to-four fold.
  • Wide policy support in the form of private sector participation and liquidity infusion can further help the banking sector. Significant growth is possible in private sector lending as credit disbursal by private sector banks is expected to increase.
  • Healthy regulatory oversight and credible monetary policy by the RBI can also help lend strength and stability to the sector.

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FAQs on the Banking Sector

How has the banking sector performed in the past decade and when is a good time to invest in the sector?

The banking sector has been one of the sectors that has driven the stock market rally in the past decade giving returns of more than 200%.

Banking stocks are very closely linked to the economy as both credit growth and margins are dependent on GDP growth and interest rates. Banks tend to have high non-performing assets (NPAs) when interest rates are high, and the economy is underperforming and vice versa.

Therefore, the best time to buy banking stocks is when interest rates start falling as the cost of borrowing for banks goes down immediately while the interest, they charge on loans stays high and falls with a lag.

To know more about the sector's past and ongoing performance, have a look at the performance of the NIFTY Bank Index and BSE Bankex Index.

Where can I find a list of banking stocks?

The details of listed banks can be found on the NSE and BSE website. However, the financial information on these websites can be overwhelming.

For a more direct and concise view of this information, you can check out our list of banking stocks.

Which banking stocks were the top performers over the last 5 years?

IndusInd Bank, ICICI Bank, and HDFC Bank were the top performers over the last 5 years in terms of sales and profit growth.

IndusInd Bank has done well on the back of its demonstrated track record and management philosophy regarding maintaining sufficient capital above the minimum regulatory requirements whereas ICICI Bank's growth can be attributed to its innovative product offerings and its unwillingness to compromise on asset quality.

HDFC Bank's growth can be attributed to its long track record of operations, comfortable capitalization levels and stable top management team.

To know which other companies performed well over the last 5 years, check out our  entire list of top performers.

What kind of dividend yields do banking stocks offer?

Since banks have to provision for potential bad loans (NPAs), these provisions generally lower profits for the bank. And as dividends are mostly paid from the remaining share of profits once essential expenses are met, not all banking stocks can steer you to handsome dividends.

In the Indian banking sector, private sector banks tend to have relatively better control on asset quality i.e., NPAs but don't pay high dividends whereas PSU Banks being government owned pay healthy dividends but can be risky in terms of NPAs.

To know which banks pay dividends, check out our list of top banking stocks offering high dividend yields.

Which are the banking stocks with the best shareholder returns?

Shareholder returns measure the total returns generated by a stock to an investor. This profitability helps gauge a company's effectiveness when it comes to using equity funding to run its daily operations. In the Indian stock market, HDFC Bank, ICICI Bank and SBI are the top finance stocks right now with the best shareholder returns.

To know which other banking stocks offer great return on equity, you can check out the top banking stocks offering the best shareholder returns here.

Which are the best banking stocks to invest in currently?

Investing in stocks requires careful analysis of financial data to find out a company's true worth. However, an easier way to find out about a company's performance is to look at its financial ratios.

The most commonly ratios for banks are the Net NPA to Advances ratio and Price to Adjusted Book Value ratio, which is the ratio of Price to Book Value adjusted for NPA per share.

  • Price to Book Value Ratio (P/BV) - It compares a firm's market capitalization to its book value. A high P/BV indicates markets believe the company's assets to be undervalued and vice versa.

    To find stocks with favorable P/BV Ratios, check out our list of banking stocks according to their P/BV Ratios