News: Indian banks' profitability seen falling

(RTR 02/02/2007) Mumbai - Profitability of Indian banks could fall in the near term as rising cost of funds and greater risks of customer defaults squeeze margins, Fitch Ratings said on Friday.

Indian banks have been raising lending rates since May last year, but the increase has been smaller than the rise in deposit rates because of tough competition, Ananda Bhoumik at the rating agency said.

Fitch estimates median net interest margin (NIM) has fallen to 3.2 percent from 3.5 percent in fiscal 2005.

"Pressure on deposit rates are enormous. The pressure on NIM is therefore likely to continue for most banks in short term," Bhoumik said.

Indian banks have raised deposit rates by 200-300 basis points since the start of 2006, competing with mutual funds and a booming stock market for investor savings.

Demand for loans has been growing at 30 percent for the third straight year as companies expand and consumers splurge on cars and homes, but risks are also rising.

Private sector banks such as ICICI Bank India's second-largest lender, and HDFC Bank last month reported more than 30 percent quarterly earnings growth, riding on consumer loans.

State-run banks such as Andhra Bank UCO Bank and Canara Bank that have lesser exposure to consumer loans reported less than 10 percent rise in quarterly earnings.

Banks that chased consumer loans which provided bigger returns than advances to companies could face rising bad loans as interest rates go up, Bhoumik said.

"These sectors are vulnerable to pressures," he said. Indian banks began lending to consumers in the last few years but credit history is inadequate.

Still, such loans as a proportion to the total were lower than other Asian markets, he said.

"The exposure to capital market and real estate is low compared to other markets in Asia," he said. "And, unsecured consumer loans are less than 5 percent of the total."

Profitability could be hurt by higher provisions by banks.

"Loan loss provisions are low... (and) need to be strengthened," Bhoumik said. "At 0.5 percent it is not sustainable... it has to go up."

Indian banks' net bad loans have fallen to about 1.22 percent of loans from a high of 8 percent in 1997.