INVESTORS POSITIVE AS PSU BANKS TO BENEFIT WITH DILUTION OF BASEL III NORMS

Over the past two years, investors have been sceptical of public sector banks due to two reasons -- continued rise in stressed assets, and the need to raise capital to meet the Basel III norms.

However, investors' concerns on capital requirement of major public sector banks may ease after RBI recently relaxed the norms for issuing Tier 1 instruments.

Moreover, easing of liquidity may lead to an expansion in net interest margins (NIMs) in the next few quarters. \

As a result, large-sized public sector banks such as SBI, Bank of Baroda (BSE -2.66 %), Punjab National Bank (BSE -2.15 %) and Canara Bank (BSE -4.17 %) may be back on investors' radar.

Such banks will be the major beneficiaries with the dilution of a few guidelines of the Basel III norms. Some of the noteworthy amendments made by the central bank include allowing retail investors to participate in Tier 1 instruments and a revision of loss absorption mechanism for non-equity instruments as temporary or permanent compared to permanent earlier.

These measures will lower banks' cost of raising Tier 1 capital. In July, Bank of India had raised Tier 1 capital at 11% interest rate. But with the new norms, the cost of these instruments for larger banks may come down. Also, the equity requirement will be lower as Tier 1 debt capital may be raised at a cheaper rate.

Another positive for banks will be the lower cost of funds. In FY14, NIMs of large public sector banks such as SBI, Bank of Baroda, Punjab National Bank and Canara Bank had fallen to their respective three-year lows.

"The NIMs of these banks declined in the range of 45 to 90 basis points in the last three years owing to higher slippages, asset liability mismatch and falling CASA proportion," said Darpin Shah of HDFC Securities, in his latest report.

However, this trend may reverse as sufficient liquidity in the bond market has resulted in lower rates in the past few months.

As per the latest data available from FIMMDA, oneyear certificate of deposit is trading at an yield of 9.05%, down 38 basis points since the last six months.

Given sufficient liquidity, the country's largest lender, SBI, has reduced its one-year to three-year deposit rates by 25 basis

points to 8.75%. It is believed that other large-sized banks may follow suit soon. Given this scenario, NIMs of banks may see an expansion in the next few quarters. Despite this, asset quality stress may still persist for some time.

Analysts believe that it may take another couple of quarters to see any decline in non-performing assets for these banks.

At present, stocks of large sized public banks are trading at around 10% lower than their 52-week highs, while large sized private banks such as ICICI Bank (BSE -2.46 %) and Axis Bank (BSE -2.18 %) are trading near their life highs.

But, with the gradual improvement in operations, the stocks of large-sized public sector banks may spring back to reckoning.