Loan moratorium eats into banks’ income; 15-40% of net-interest income out of reach of private banks

Reported share of moratorium loans dropped across private lenders to somewhere between 10-25% as of June against 30-70% in the month of April .

The share of moratorium loans has come down significantly for private lenders that have so far reported their April-June quarter results, and that has been dubbed as a sign of improvement by many. However, of the net-interest income of banks, a large sum is interest accrued and not collected as the loans were under the moratorium, said investment bank Credit Suisse in a recent report. “The interest accrued (and not collected) still accounted for as much as 15-40% of 1Q (April-June quarter) NII, lowering the reliability of current reported profitability,” the report said. With uncertainty still looming large, the situation of banks is akin to Schrodinger’s cat paradox, where it won’t be possible to know if the cat is dead or alive until the moratorium ends.

“Given the share of loans under moratorium, particularly, the higher share of loans under moratorium in the higher yielding retail book, interest accrued on these loans accounted for 15-40% of NII for the banks, with the smaller banks seeing a larger share at 30-50%,” the report said. Share of moratorium has, however, dropped coming into the second phase of the loan repayment pause. Reported share of moratorium loans dropped across private lenders to somewhere between 10-25% as of June against 30-70% in the month of April when no businesses other than essentials were allowed to run. Credit Suisse said the sharp drop was on account of change in approach, from an opt-out to an opt-in method. However, even for loans that have come out of the moratorium, banks have reported collection efficiency to have remained well below the pre-coronavirus levels.

Another worry for the private lenders is drop in advances by banks as they grow risk-averse. “Private banks reported ~2% on-quarter contraction in loans as most banks pulled back on consumer lending. Corporate growth held up better on the back of larger banks raising exposure to top rated corporates,” Credit Suisse noted. On the other hand deposits have picked-up. Smaller private lenders have also witnessed healthy growth in CASA deposits in the first quarter. 

While large banks have cut their deposit rates by 150-250 basis points, small banks have only trimmed rates by 50-100 basis points. With falling loans and rising deposits banks could face difficulties in protecting their margins. To add to it, banks have been increasing provisions to deal with the disruptions that the pandemic brings with itself. Private banks have kept aside capital equalling 2%-8% of the loans under moratorium so far. Additionally, banks have also either raised or are trying to raise capital through various instruments to tide through the troubled times. Rating agencies Moody’s and S&P Global recently said that smaller lenders could face difficulties with changing environments in the financial sectors, as they lack the capital deal with the headwinds.

Credit Suisse said it prefers large private banks given their better diversified loan books and stronger RoE expectations. Their top picks are HDFC Bank, ICICI Bank, and Axis Bank.