Loan growth, margins seen improving for banks in Q3 as credit costs ease

Banks are likely to see better loan growth and margins in Q3FY26, with PSU lenders outperforming as credit costs ease, unsecured loan stress moderates and recoveries remain steady

The banking sector could see better loan growth in the third quarter of financial year 2026 (Q3FY26) with improved net interest margins (NIMs), though the full impact of latest rate cuts will be largely felt in the fourth quarter. There may be lower slippage in unsecured loans and microfinance institutions (MFIs) along with steady recovery trends, which should lower credit cost.

 

Overall, there could be 5 per cent year-on-year (Y-o-Y) growth in net interest income (NII), with 9 per cent Y-o-Y growth in pre-provision operating profit (PPOP) and net profit growth of 4 per cent Y-o-Y in Q3FY26.

 

Within this, there will be divergent NIM trajectories and quarter-on-quarter (Q-o-Q) credit growth will range from 3-5 per cent with modest treasury gains. System loan growth may be over 11 per cent Y-o-Y but lower deposit growth is a key monitorable.

 

Tight credit deposit or CD ratios would be a major variable going into Q4.

 

PSU banks may do better than private banks.

 

PSU banks have been aggressive in micro small and medium enterprises (MSME), gaining share due to credit guarantee fund trust for micro and small enterprises or CGTMSE-backed structures and repo-linked pricing, which narrows the rate advantages of private banks. But deposit trends may be weaker across the board. CD ratios are tight and opex may rise due to changes in labour law.

 

Funding costs may come under pressure with soft current account and savings account or CASA flows, stickier bulk deposit rates and rate hikes visible in certain retail deposit buckets. Higher competitive intensity from aggressive PSU banks will mean limited room on yields.

 

A gap between repo rate and G-Sec yields could imply higher reinvestment risks. Bank must also be braced for more rate cuts and transition on liquidity coverage ratio or LCR changes in FY27, with associated impact on expected credit loss or ECL.

 

In terms of asset quality, Q3 was better except for seasonal rise in agri slippages. Trends should improve in personal loans and MFI.

 

Overall PSU banks are likely to show steadier trends while private bank trends may be more mixed. In the private bank segment, big banks with reasonable valuations may outstrip the rest while valuations of mid-tier private banks look to be on the high side.

 

Unsecured retail loans and credit cards are showing early signs of stabilisation, with lower delinquencies. Lenders are enforcing tighter credit filters. In housing, momentum is intact, with PSU banks gaining share. Lower rates are supporting growth in Tier-II/III markets despite low affordable housing demand. Meanwhile, private banks have shifted to looking for calibrated MSME growth, and they are trying to limit unsecured exposure and improve asset quality.

 

PSU banks have gained MSME market share over the past 6 to 9 months due to faster turnaround times (2-4 days), CGTMSE-backed lending, and repo-linked pricing, narrowing the cost gap compared to private banks. PSU banks like SBI, Punjab National Bank or PNB, Union Bank, and Bank of India are employing CGTMSE-backed structures, where loans up to ₹50 crore can be sanctioned without collateral.

 

Unsecured business lending is witnessing growth moderating to 10-20 per cent in FY26 from 30-40 per cent in prior years. Despite sharp corrections in rates to a range of 12-12.5 per cent, demand has not revived much. Collection intensity has increased in unsecured MSME, with higher recovery costs.

 

Housing and real estate momentum remains intact, led by a pickup in disbursements and strong activity among large real estate developers. Stress among small developers is visible but appears to be contained. PSU banks have normalised commissions of 0.8-1.2 per cent in housing, aiding in traction in Tier-II/III cities, while private banks continue to dominate in high-credit-score and premium borrower segments.

 

Personal loan rates have moderated from the mid-teens to low-teens, while affordability has improved. However, lenders are not chasing volumes aggressively. Credit card growth is subdued and selective with careful scrutiny of new issuances. Stress indicators are stabilising, though delinquency levels are still elevated. Large private banks dominate, with focus on spend quality, and pre-approved or secured card offerings.

 

Most private banks and NBFCs now prefer hybrid MSME structures (partial CGTMSE and collateral), limiting unsecured exposure. ICICI Bank and HDFC Bank remain the most competitive private banks, with low funding costs and better underwriting depth. Agri-linked businesses have been under stress for the past 4–6 months, with 80 per cent of stress due to overleveraging.

 

Overall, there could be positive surprises from the PSU banks while large private banks may look more attractive than mid-size or small banks, because valuations are high in the latter segments.