Financial Services have been a darling sector for all India as it has made a lot of money for a lot of investors. Rightfully so, as India is a developing economy, financial services especially banks and NBFC are a key driver in the growth of the economy. Before the sharp correction of March 2020, Bank Nifty was at an all-time high of 32,400 only to see the extreme fall to 17,100 in just 3 months. While we have seen a good recovery since the fall in March, a real test of fundamentals for Banks and NBFCs can happen in the next 2 quarters. And one factor that can impact the Banking and NBFC stocks is NPAs i.e. Non Performing Assets.

Now we know that it is not rocket science that NPAs are one of the most important aspects that defines the quality of any financial institution. And a bank/NBFC with low NPAs demands a premium in stock markets. However, we are currently in an unprecedented territory where the ongoing Corona virus pandemic has affected businesses across the globe. In India, the countrywide lockdown impacted Institutions and Individuals equally where the finances for both took a hit. And in turn, to give relief to the retail and Institutional borrowers, the RBI and the Government of India stepped in with Loan Moratoriums. This Loan Moratorium and subsequent loan restructuring scheme can define the impact on the income of Banking & NBFC stocks as well as the NPAs. Let’s explore this in more detail.

What is Loan Moratorium?

By the tail end of March 2020, the countrywide lockdown was imposed in India. As a result, all the organizations were forced to shit their offices, plants, factories for 21 days in the first phase of lockdown. While service-oriented companies could work from home, other small businesses and product-oriented companies faced the heat with almost zero revenue in this phase. This also ended with pay cuts and job losses for a lot of individuals. As mentioned earlier, the major impact of this was on the loan servicing capacity of retail and institutional borrowers. Loan Moratorium was the way through which the borrowers could delay their repayment of loans for a stipulated time frame. This Moratorium started in March and ended on 31st August 2020.

As the Loan Moratorium is now over, another initiative taken by the RBI and Finance Ministry is Loan restructuring. According to RBI guidelines, Loan restructuring is a one-time restructuring of both retail and corporate loans without getting defined as Non Performing Assets. The banks are supposed to roll out the scheme by 15th September as per the Finance Minister’s instructions. While these steps are beneficial to the borrowers, they may impact adversely to the Banks and NBFCs.

How Loan Moratorium can lead to an increase in NPAs?

As per the RBI Financial Stability Report, the Public sector banks are highest exposure to the accounts with Loan Moratorium. Here’s the detailed data:

Sector

Corporate Accounts

MSME

Individual

% of Total Customer

% of Total Outstanding

% of Total Customer

% of Total Outstanding

% of Total Customer

% of Total Outstanding

Public Sector Banks

28.8

58

73.9

81.5

80.3

80

Private Sector Banks

21.6

19.6

20.9

42.5

41.8

33.6

NBFCs

39.7

56.2

60.7

61.1

32.5

45.9

Source : RBI, Data as on 30th April 2020

The impact is also higher for MSME and Individual accounts compared to corporate accounts. Now that Loan Moratorium is already ended, the important factor to now observe is the repayment ability of these borrowers. Even though the economy has started opening up slowly, the impact of the lockdown can still be seen. The businesses will take time to get back to their earlier groove.

With moratorium now over, the banks and NBFCs may see some stress in their balance sheet over next 2 quarters if the borrowers find it difficult to start the repayments. This will in turn result in increase in NPAs.

Considering this, How should you select the stocks in financial industry?

Financial services sector dominates the Sensex and Nifty index. There is no denying that in India’s economy it will continue to play a major role and will steer it to the path of becoming developed economy. However, over short term, there can be significant volatility embedded in the stocks of banks and NBFCs.

Hence, while selecting stocks of these companies, stick to the fundamentally strong well capitalised banks/NBFCs. These stocks will find it easier to ride through the uncertainty over next 2 quarters. Keep an eye on the gross and net NPAs reported by these entities. It will be a driving force for their stocks.

And finally, do not deploy all of your capital in one go. Stagger your entry points by entering at every fall so that the average purchase price goes down. Need help in shortlisting stocks? Feel free to reach out to our research team. Get expert assistance to find the right stock for you.