Inflow of FCNR(B) deposits reduced private bank margins in Q2FY27, but recovery is expected

Significant attraction of non-resident deposits in foreign currency (FCNR(B)) through the Reserve Bank of India's (RBI) preferential exchange mechanism put pressure on the profitability of leading private sector banks in the second quarter of fiscal year 2027. Nevertheless, lenders predict a margin recovery in subsequent quarters as these funds are utilized and due to the shift in the interest rate cycle supporting lending yields.

HDFC Bank, the country's largest private lender, reported a decline in its Net Interest Margin (NIM) by 10 basis points, bringing it to 3.16 percent in the September quarter compared to 3.26 percent in the previous quarter.

According to Sashidhar Jagdishan, CEO and Managing Director of HDFC Bank, the bank's margin, which was under pressure due to faster asset revaluation and lagging funding costs during the interest rate downturn, is poised for reversal as the rate cycle grows. He also noted that shifting the loan portfolio towards retail customers and micro, small, and medium enterprises (MSMEs) relative to corporate and mortgage loans will further strengthen the margin over time.

ICICI Bank, the second-largest private lender in the country, recorded a drop in its NIM by 18 basis points, reaching 4.18 percent in Q2FY27 compared to 4.36 percent last quarter. Sandeep Batra, Executive Director of ICICI Bank, attributed this reduction largely to FCNR(B) deposits, adding that the full effect will materialize in the December quarter.

Batra clarified that the full impact will be visible in the third quarter, after which margin growth is anticipated even at the current policy rate level, emphasizing that the bank is focused on optimal fund utilization. The deposits provided the bank with a stable funding source for three to five years. ICICI Bank used a portion of these funds to repay existing deposits and support lending growth during the quarter, with the remaining amount to be deployed over the next two quarters.

Axis Bank, the third-largest private lender, reported a 10 basis point decrease in NIM to 3.36 percent in Q2FY27 from 3.46 percent in the previous quarter. The bank partially linked this pressure to FCNR(B) deposits attracted through a special RBI channel but stated that it remains within the target NIM of 3.8 percent.

During the analyst call, the bank's management disclosed that part of the funds was used at the end of the quarter in September to close more expensive Non-Resident Term Deposits (NRTD), and the benefit from this is expected to reflect in the margin in the current quarter. Management noted that in the previous quarter, they used some of these funds to repay more expensive NRTD and expect to see a positive impact on NIM in the next quarter.

In terms of mobilized funds, ICICI Bank mobilized $17.88 billion in gross FCNR(B) deposits. Its international branches and subsidiaries extended about $9 billion in loans against these deposits and issued $3.63 billion in Standby Letters of Credit (SBLC). HDFC Bank attracted approximately $11.5 billion, making it the second-largest amount among private lenders. Its overseas units provided about $5.7 billion in loans against these deposits and issued $3.1 billion in SBLC. Axis Bank attracted $10.62 billion in FCNR(B) deposits, channeling $4.57 billion to support lending through its foreign branches, and using the remaining funds to assist in repaying expensive Non-Resident Term Deposits.

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business-standard.comOctober 9, 16:26

Banks expect profit growth in the second quarter despite margin pressure from FCNR(B) deposit inflow

According to Bloomberg consensus forecasts, banks' net profit for the fiscal year 2027 (Q2FY27) is estimated at 1 trillion rupees, representing a 19.6% increase compared to the same period last year. However, a significant inflow of foreign currency deposits from non-residents (FCNR(B)) may put pressure on interest margins.

Indian banks are expected to demonstrate steady profitability growth in the second quarter of the 2027 fiscal year. This growth is attributed to reduced credit costs, stable revenue growth, including Net Interest Income (NII), which is supported by active lending growth, as well as increased fee income.

Nevertheless, Net Interest Margins (NIMs) may face challenges due to the large-scale attraction of FCNR(B) deposits from foreign non-residents.

Bank Sector Forecasts

According to Bloomberg consensus estimates, the banking system will achieve a 19.6% year-on-year growth in net profit, amounting to 1 trillion rupees, while net income is projected to grow by 11.1%, reaching 3.02 trillion rupees.

Private banks are expected to show an increase in Profit After Tax (PAT) of 23.2% year-on-year, reaching 52,027 crore rupees, surpassing public sector banks whose net profit is forecast at 46,861 crore rupees, corresponding to a 14.4% growth.

The net income of private lenders is forecasted at 1.5 trillion rupees with a 11.1% growth, whereas public sector banks are expected to increase to 1.45 trillion rupees by 10.3%.

Sequential Growth Dynamics

Meanwhile, compared to the previous quarter, the industry's net profit is predicted to remain almost unchanged, increasing by only 0.1% compared to the June quarter, even with a projected revenue increase of 3.5%. Private bank profits are expected to grow sequentially by 1%, while public sector banks might see a decline of 1.1%.

Individual Bank Forecasts

Among private lenders, HDFC Bank is projected to increase its net profit by 6.9% year-on-year to 19,918 crore rupees, and ICICI Bank's profit is expected to rise by 15.9% to 14,323 crore rupees. Axis Bank is expected to increase its profit by 40.7% to 7,160 crore rupees, and Kotak Mahindra Bank's net profit is estimated to rise by 26.3% to 4,108 crore rupees. SBI's net profit is projected to grow by 26.3% to 21,395 crore rupees, while net income is expected to increase by 15.4% to 67,278 crore rupees.

Small financial banks are expected to show the fastest growth among bank categories: aggregate net profit should rise by 92.9% year-on-year to 1,489 crore rupees, and net income by 29.4% to 7,131 crore rupees.

Factor Analysis and Analyst Opinions

According to Jefferies, preliminary business reports from banks indicate healthy lending growth and managed deposit growth, aided by the mobilization of FCNR(B) deposits. However, the large attraction of these deposits is expected to have a temporary downward impact of 4-5 basis points on NIMs in the July to September quarter. A sharp decline in treasury operations income is also forecasted.

Among major banks, ICICI Bank and Kotak Mahindra Bank are expected to lead net income growth, while stable core NIMs will provide confidence for Axis Bank. HDFC Bank may face slower core profit growth due to sequential margin compression. The brokerage notes that State Bank of India (SBI) should show stable results, and potential profit from the sale of a stake in SBI Funds Management could provide additional headroom for contingent reserves.

Among mid-tier lenders, AU Small Finance Bank is expected to maintain strong net income and Return on Equity growth, while IDFC First Bank, IndusInd Bank, and Bandhan Bank are likely to show improved performance.

Motilal Oswal stated that NIMs in private banks are likely to suffer from rapid business growth following the influx of FCNR(B) and the credit leverage provided against these deposits. Margins are expected to gradually improve as banks direct funds towards lending and repay expensive liabilities. Analysts believe that large private banks may feel a negative impact of 8-20 basis points.

Among mid-tier lenders, RBL Bank is expected to expand NIMs due to the full quarterly effect of the Emirates NBD capital infusion, while IDFC First Bank might face a sharper sequential decline.

The brokerage noted that public sector banks' margins are likely to remain in a narrow range, given their relatively lower mobilization of FCNR(B) relative to total deposit volume and the focus on repaying expensive liabilities.

JM Financial expects a sequential decline in NIMs across most banks due to the large inflow of FCNR(B), the time required for fund deployment, and the slowdown in Current Account Savings Account (CASA) growth. They forecast a sequential reduction of 14-18 basis points for ICICI Bank, Axis Bank, and Kotak Mahindra Bank, who attracted relatively large volumes of FCNR(B) deposits, compared to approximately 5 basis points for HDFC Bank and 3 basis points for SBI. Margins in public sector banks may remain generally stable, but strong balance sheet growth should support Net Interest Income (NII) growth in the second quarter of the 2027 fiscal year, according to the broker.