Banks would need additional capital buffer of $20 bn, says Credit Suisse

Slippage of 20% on loans under moratorium to weigh on capital ratios

Indian banks are expected to shore up their capital buffers by raising $20 billion as domestic banks prepare for slippages from loans under moratorium, asset quality concerns, rating downgrades and rising refinancing risks, Credit Suisse said in a note.

The foreign brokerage pointed out that a 20 per cent slippage from loans under moratorium is likely to push common equity tier 1 (CET-1) ratio to below minimum or comfortable thresholds for most banks.

Further, 15-40 per cent of corporate loans are rated BBB & below and 20-40 per cent of loans are under moratorium till August 31. The stress on these loans is expected to only get visibly by 3Q FY21.

Private banks are expected to look at maintaining the minimum CET1 threshold of 12 per cent, while government-owned (PSU) banks are likely to be comfortable with a nine per cent Tier 1.

Of the estimated $20 billion capital raise, private banks are expected to raise $7 billion, while PSU banks could require a $13 billion recapitalisaiton from government.

“For State Bank of India (SBI) and ICICI Bank part of this capital may come from paring down their stakes in insurance subsidiaries. SBI’s stake sale in insurance subsidiary to 30 per cent can cover 50 per cent of its capital call and for ICICI, this is two-times of capital needed,” analysts said.

Further, accelerated rating downgrades can add to asset quality stress for domestic banks. In FY20, Icra downgraded Rs 7 trillion of debt as against Rs 3 trillion downgraded in FY19.

For corporates with downgraded debt papers, refinancing is likely to be challenging. “We estimate Rs 2.5 trillion of debt is already downgraded to ratings that are likely to make refinancing challenging,” the brokerage said.

The brokerage’s estimates suggest that two-thirds of this is from non-bank financial companies (NBFCs) that have approximately Rs 22,000 crore of bond repayments due over the next 12 months.

Credit Suisse also raised credit cost estimates by 20-60 per cent given lockdown and moratorium extensions, which will impact both banks and NBFCs.

The broking house has cut FY21/22 earnings estimates and target prices by 10-20 per cent due to increased slippage and expected spike in credit costs. HDFC Bank, ICICI Bank and Axis Bank remain the preferred picks for Credit Suisse.

Risk-aversion by banks and mutual funds (MFs) towards lower-rated papers have continued despite the Reserve Bank of India (RBI) and government taking various liquidity enhancement measures.

According to the broking house, 90 per cent of incremental lending has only been to A or higher-rated papers. Redemption pressures in credit-oriented funds have dried up liquidity from MFs.

The broking house estimated that funds with a significant (20 per cent-plus) share of lower-rated (A and below) saw outflows of 20-60 per cent of assets under management (AUM) in past few months and credit risk funds had seen approximately 50 per cent AUM decline over the past couple of months.

Apart from NBFCs, downgrades in commodity conglomerate, agri and real-estate sectors have contributed meaningfully to such outstanding debt with non-financials.

Of the overall bond market outstanding, estimates suggest that over Rs 9 trillion worth of bonds will be maturing in 18 months and constitute 20 per cent of outstanding corporate bonds. Roughly, two-thirds of these bonds are issued by financials and the rest by corporates.

NBFCs remain vulnerable with banks being selective in extending moratorium, moderating liquidity through external commercial borrowing (ECB), securitisation market and MF funding.

Besides banks, NBFCs would also want to maintain higher capital buffers with 30-75 per cent of loan books under moratorium coupled with losses.

The brokerage expects to stress formation to also flow to investment-grade book.

“While the focus so far has been more on the BB and below corporate loan books of banks, with tightening liquidity and the accelerating pace of downgrades, we expect stress formation to flow through from the BBB book as well. Currently, BBB & below is at 15-40 per cent across banks,” analysts said.

MFs funding falling

MFs are estimated to see Rs 3.7 trillion of borrowing maturing in the next three months, with Credit Suisse estimating Rs 2 trillion of debt maturing for NBFCs and housing finance companies. About Rs 64,000 crore of maturity between April-Dec, 2020, is for AA and below AA-rated papers.

MFs have continued to stay risk-averse to NBFCs since IL&FS crisis, which has got further exacerbated by Covid-19 pandemic.