Asset quality slippage has hit bottom; recovery still away, says Moody's

Any improvement in asset quality will be U-shaped rather than V-shaped, Moody's said grad

Deterioration in asset quality has hit the bottom for the country’s public sector banks and the weak corporate financial health could act as a drag due to the slow recovery in credit quality, according to Moody’s.

Moody’s expects the net new non-performing loan (NPL) formation rates for public sector banks to be lower than those observed over the past three years, the rating agency said in a statement. The impaired loan ratio might stabilise at current levels.

Any improvement in asset quality will be U-shaped rather than V-shaped, with only a gradual decline in the new NPL formation rates over the next two years.

The agency has retained its negative outlook on the Indian banking sector at Baa3 stable.

Elaborating the slow pace of improvement in asset quality, Moody’s said the proportion of standard restructured loans becoming NPLs could be much higher than historical averages, at 25-30 per cent.

Besides, the health of companies in India, while having stabilised, continues to be fragile on an absolute basis with high debt levels and weak debt-servicing metrics. This is particularly relevant for public sector banks, which have a higher share of corporate loans in their books than private sector banks, Moody’s noted.

Moody's said Indian companies would increase their de-leveraging efforts with conducive market conditions, making it easier to raise equity and sell assets. However, despite the favourable market conditions, it will take two-three years for a meaningful reduction in leverage owing to the high debt levels.

As a result of these asset quality trends, public sector banks would continue to incur high levels of credit costs. This will constrain their internal capital generation and make them dependent on external capital infusion to increase their low capital levels, it said.