Analysis of Financial Stability Report (FSR) of the Reserve Bank of India (RBI) and how it came as a Shock to Investors

According to the Central Bank’s Financial Stability Report (FSR), the RBI has maintained a vigilant standpoint on the bank’s asset quality. RBI has indicated that the GNP (Gross performing assets) ratio for commercial banks could deteriorate to 13.5% and if the situation gets worse the ratio could touch 14.8%. The non-performing assets were at 7.5% in September 2020.

The RBI’s July 2020 Financial Stability Report has estimated the NPA levels at almost on the same lines compared to the January 2021 Financial Stability Report. If we compare the initial stage of Covid-19 in India, the economic activities have taken a steady pickup. The lower number of loan recast requests from the corporate borrowers is indicating the overall stress in the sector may not be as big as compared to the initial stages of the Covid-19. If the economic activities keep on gaining momentum there are chances that the number of borrowers will be in a position to repay the loan to the lenders.

‘The RBI’s warning of a spike in gross NPAs to 14.8 percent of total loans is a worst-case scenario that may not necessarily happen if the economy picks up,” Experts say. For investors, experts are favoring private-sector lenders who are focused on retail.

“Most old private sector banks look attractive on a valuation basis as they trade at or below 1x on FY22E Book Value as compared to their ten averages of ~1.3-1.4x. However, earnings of these old private sector banks could be very volatile due to recognition of higher NPAs in the forthcoming quarters,” Rusmik Oza, Executive Vice President, Head of Fundamental Research at Kotak Securities told Moneycontrol.

The government needs to recapitalize the weak public sector banks which carry bad loans (NPA) on their books. The public bank is not in a position to raise money by themselves unlike the bigger banks like State Bank of India, Punjab National Bank, and Bank of Baroda.

The intervention of the judiciary and government on the resolution of non-performing assets has disturbed the functioning of the banking sector in the past. The apex bank is the best judge of what is good for the banking sector.