Fitch Ratings has affirmed India's three largest private sector banks: ICICI Bank Ltd. (ICICI), HDFC Bank Ltd. (HBL) and Axis Bank Ltd. (ABL). The agency has affirmed the Long-Term (LT) Foreign Currency (FC) Issuer Default Ratings (IDR) of ICICI and ABL at 'BBB-' and HBL and ABL's National LT ratings at 'Fitch AAA(ind)'. The Outlook on the LT FC IDRs is Negative, which mirrors India's sovereign rating Outlook. The Outlook on the National LT ratings is Stable. A full list of rating actions is at the end of this commentary.
The banks' ratings are driven by their standalone risk profiles, as indicated by their Viability Ratings (VR). The affirmations factor in the strength of franchise, steady and consistent performance on various aspects of the credit metrics, particularly asset quality, funding and profitability. The performance of all three banks has relatively been better over peers rated 'bbb-' on the VR scale. However, HBL's performance has been consistently superior through cycles to that of the other two private banks.
Similarly, the banks' capitalisation (FY12 Tier 1 CAR/total CAR: ICICI: 12.7%/18.5%; HBL: 11.6%/16.5%; ABL: 9.5%/13.7%) is an important supporting factor for the current VRs, given their risk appetite and above-average growth plans. Fitch notes that both quantity and quality of capital across the banks underpin absorption capacity when asset portfolios are stressed under adverse scenarios. Fitch's stress test shows that capital impairment for all the three banks is zero to negligible under stress conditions; a factor that also underpins their VRs. However, HBL's ability to withstand stress is noticeably higher than ABL and ICICI, underpinned by its robust margins, strong funding structure and loan book diversity.
Potential sources of asset quality risks may originate from retail loans for HBL (around 54% of total loans), which has the highest share (including unsecured retail) among its peers, while for ICICI its exposure to cyclical sectors would matter more if economic downturn continues unabated. Of the three, ABL's exposure to infrastructure loans is the highest and could pose a challenge to long-term asset quality if project completion is delayed due to persisting economic and structural constraints. ABL also carries a high share of secured loans, including retail, which is dominated by housing and auto loans. This, in Fitch's view, partly balances its tighter capital position.
Risk underwriting and monitoring skills for all three banks are generally viewed as better than domestic peers. As at end-FY12, all three banks reported a net NPL ratio of sub 1%. Both HBL and ABL reported gross NPL ratios of around 1% in FY12, while ICICI appears to be making progress in dealing with its legacy portfolio that arose post the first round of the credit crisis (FY09-FY11) and which is adequately reserved.
Low cost deposit share continues to be comfortable for the three banks ranging between 40%-50% of total deposits; HBL (FY12: around 48%) ranging as the highest and the most consistent performer among the three. ABL has moved towards a more liability-focused growth strategy; steadily reducing its share of high-cost bulk deposits in total term deposits (FY12: 63%; FY11: 70%). Both ABL and ICICI remain exposed to dollar refinancing risks given their wholesale-funded overseas operations. ICICI's refinancing risks are higher (over USD 2bn maturing in FY13) compared with ABL's more diversified maturity profile. That being said, Fitch expects ICICI to meet its near-term obligations without difficulty. On the domestic front, ICICI has successfully expanded in its low cost deposit sources over the last two to three years.
These strengths have translated into robust profitability that is supported by strong income diversity (given robust fees franchise) and stable costs. The banks have reported ROA of above 1% consistently over the past five years (except ICICI in FY09). Moreover, stable dividend payout ratios have ensured that internal capital accretion to the existing capital base is strong.
The implementation of Basel III is likely to mean that these banks will, at some point before 2019, need to access the markets for capital. Fitch expects the Indian market to be particularly active between FY16-FY18 as banks look to meet the minimum requirements. Fitch's early estimates for the three banks suggest that they collectively would require close to INR700bn (around USD12.5bn) by FY18, which would need to be planned. ABL manages its capital position tightly (relative to the other two banks), and would thereby need to start the earliest.
Severe deterioration in performance (at or beyond stress case levels) could lead to a downgrade of the VR for ICICI and ABL and may also impact ABL's LT IDR and HBL and ABL's National LT ratings, albeit unlikely in the medium term. In the meantime, any meaningful reduction in capital buffer - especially if accompanied by higher-than-expected growth and/or risk tolerance - may also prompt a downgrade. ICICI's LT IDR is also at its Support Rating Floor, reflecting Fitch's view of a higher probability of government support. This would be downgraded if India's sovereign rating was downgraded. HBL and ABL's National LT ratings are already at the highest end of the rating scale and therefore cannot be upgraded. The ratings of hybrid instruments are based on Fitch's criteria.