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Positive ratings by global investment firms like Goldman Sachs and UBS gave significant attention to Indian Bank stocks, which was severely hit by the pandemic. Here are some things to keep in mind before investing in this sector:
Public vs Private Banks:
India has a unique landscape of banking sector. Twelve public sector banks have the Government’s full control and which focus on providing banking facilities in rural, semi-urban areas, implementing government welfare schemes for farmers and people below the poverty line, etc. Ordinary people, most trust these banks as they come with sovereign backing. But it has some disadvantages like bad loans, high employee cost and corruption, which makes them less profitable and many times loss-making.
Private Banks, on the other hand, have few terrible loans, low employee cost and agreed for profit. Though their presence PAN India is not as much as of PSBs, they are increasing their footprints. But the management of these private banks plays a crucial role. A recent example of YES Bank, where RBI put limitations on money withdrawal on account of leadership issues and bad asset quality should be kept in mind. On the other hand, well managed private banks would always give better returns.
Key Ratios:
Apart from conventional P/E, P/B and RoE ratios used for investment, there are crucial bank-specific rates given below that could be analysed before investing.
1.Net Interest Margin:
One of the essential parameter in evaluating bank stocks as it reveals the difference between interests earned by the bank from loans with the outgoing interests for savings accounts and term deposits. Expressed in percentage, it’s a profitability indicator for the bank. Positive ratio of Net Interest margin indicates that the bank is profitable, while negative suggests that it’s in a loss.
2. NPA Ratio:
NPA is a popular term nowadays. It refers to loans which are in default. Lower the NPA ratio, better the bank’s asset quality.
3. Provision Coverage Ratio (PCR):
As per RBI mandate, banks have to set aside some portion of their profits as a provision against bad loans. Higher the PCR ratio (usually >70%) means the bad loans are taken care of, and the bank is now on a growth path.
4. Capital Adequacy Ratio (CAR):
It is critical to ensure that banks have enough cushion to absorb a reasonable amount of losses before they become insolvent. It is the ratio of a bank’s capital concerning its risk-weighted assets and current liabilities. Higher CAR means the bank can absorb losses without diluting its assets.
5. Credit-Deposit Ratio:
Also called a Loan-to-Deposit ratio in internationally, it compares the bank’s total loans to its total deposits for the same period. If this is too high, then the bank is going through a liquidity crunch, and depositor’s money is under pressure. If the ratio is low, then the bank is working inefficiently and not generating as much as it could be.
So, Happy Investing!