Elara sees slower re-rating for mid-tier banks, favours large pvt lenders

While the consensus outlook for FY27 remains positive for the sector, Elara believes that a stronger liability franchise will be key, with risk-reward ratio more favorable for frontline private banks

Elara Capital anticipates a slower re-rating for mid-tier private banks, citing their stretched valuations and a more gradual path to improvement. In contrast, the brokerage remains bullish on large private sector lenders, including ICICI Bank and Kotak Mahindra Bank, which are expected to benefit from stronger earnings resilience and attractive valuations.  While the consensus outlook for FY27 remains positive for the sector, Elara believes that a stronger liability franchise will be key, with the risk-reward ratio more favourable for frontline private banks.

 

The brokerage continues to back ICICI Bank and Kotak Mahindra Bank as its top picks within the sector, and it remains cautious on mid-tier private banks, which it believes may face a more sluggish re-rating. Among public sector banks, State Bank of India (SBI) remains a preferred choice, although the potential for a sustained re-rating in PSU banks is expected to take longer.

 

Here's what Elara forecasts for the banking & financials sector:

NIMs may not follow a simplistic framework

According to Elara, the consensus expects a better NIM outlook for FY27, with a large part of the rate cut impact already absorbed in FY26 and the benefits of liability repricing likely in FY27 (for most). However, emerging trends may challenge this argument.

 

Elara, however, sees concerns about overall deposits and softer low-cost deposit flows, higher CD ratios, increased competitive intensity that may cap maneuverability on yields, strain on investment income (likely from reinvestment risk), possible impact of new LCR regulations, and the possibility of further rate cuts.

 

"There are many moving variables, and thus the NIM outcome may not follow a simplistic framework (currently assumed by the consensus). We expect some pressure points on deposits and anticipate NIM revisions (for FY27), while NII revision may stem from growth orientation, as most banks now seem to prioritise growth over margin – a dynamic that is self-correcting in our view,” said the brokerage.

 

Elara, however, believes FY27 will be a year when 'liabilities' will become 'assets' for banks, and thus, it prefers larger private banks with stronger liability franchises. “The recent price actions suggest that frontline larger private banks are trading at attractive valuations and offer stronger risk rewards," said Elara.  ALSO READ | PSU Bank index soars 31% in 2025; outperforms Nifty for 5th straight year

Yield pressure is likely to sustain

The system is experiencing heightened competitive intensity (reflected in through-cycle yields across segments), which Elara believes is likely to rise further, given unprecedented equity flows into the system, more efficient PSU banks, and a focus on growth over profitability for players, while the credit multiplier remains range-bound (in the absence of corporate growth). 

 

This rate-cut cycle has been characterised by sharper cuts in deposit rates, while lending rate pass-throughs are still unfolding. The brokerage does not see any major leeway with ecosystem players on the yield side.

Funding cost benefits may be limited

According to Elara, the consensus assessment of funding cost benefits (largely on liability repricing for banks in FY27) may have certain dislocations. 

 

"System deposit growth has been lagging, and the system today is growing at much higher CD ratios, which would mean much higher deposit ask rates for FY27 – this would strain costs (we have seen sticky/rising bulk deposit rates, retail deposit rate hikes with certain banks in some buckets, and the possibility of further ‘out of cycle’ rate hikes cannot be ruled out). Also, given recent trends, the institutionalisation of the deposit base is at play, which means that pricing will play a role in deposit accretion," said Elara in its report.

 

Cumulatively, the brokerage believes that the consensus assumption regarding funding cost benefits could be challenged in FY27.  ALSO READ | PL Capital initiates coverage on JK Cement, JK Lakshmi, JSW Cement; details

Investment yields may see reinvestment risks

The gap between the repo rate and G-Sec is rising, which means higher reinvestment risk for that portfolio. "While we generally tend to underestimate the impact of interest-on-investments on NIMs, it formed 15-20 per cent of total interest income, and thus, challenges here will have a bearing on NIMs," said Elara. 

 

NIMs may not follow a simplistic, linear framework

In the past five years, through the upward interest rate tables, Elara said, NIMs have been improving for the system (reaching the highest levels seen historically). FY26 has seen a decline in NIMs, but funding cost benefits have cushioned the impact (until now). 

 

"Looking at the ecosystem, NBFCs are running at higher spreads, and the gap has widened versus banks. The moot question is: will that sustain? We assign a low probability to it," said Elara.   

(Disclaimer: The views and investment tips expressed by the brokerage in this article are their own and not those of the website or its management. Business Standard advises users to check with certified experts before taking any investment decisions.)