Banks underwriting standards at risk amid high loan growth says Fitch

Mumbai: Global ratings agency Fitch Ratings on Monday said that the risk appetite through higher loan growth will remain a key consideration for Indian banks' intrinsic creditworthiness despite improved financial performance. The agency said that while the asset quality of Indian banks' retail loans has held up well so far, an accumulation of "untested risks" due to rapid growth may challenge banks’ underwriting standards and risk controls. Currently, retail loans constitute around 10 per cent of system loans, and have grown at a 20 per cent CAGR since FY21, fuelled by a shift towards unsecured credit to expand margins. The impaired loan ratio of retail loans was 1.3 per cent in 1HFY24.

Its assessment of Indian banks' risk profiles also factors in lower transparency in terms of data disclosures on retail underwriting, such as loan-to-value ratio, borrower debt serviceability, credit bureau scores, and recovery rates, than most Asian banking systems.

Banks' interest in SME and farm loans is also rising, notwithstanding above-average impaired loan ratios of 5 per cent and 7 per cent respectively, in 1HFY24, though off their peaks in the last credit cycle. State banks have limited flexibility to avoid these sectors due to their quasi-policy roles, but appetite is also driven by high yields. Banks often rely on government guarantees to mitigate risk in SME loans, but there is room for better visibility on risks covered by these guarantees.

“Asset quality pressures from the previous credit cycle are subsiding, creating a favorable business environment. This has bolstered banks' potential and appetite for growth. Bank loans grew by 16 per cent in the financial year ended March 2024 similar to FY23, and exceeded the 8 per cent CAGR over FY15-FY22. Large private banks gained significant market share in the last credit cycle and continue to grow rapidly; state banks also returned to brisk growth but lagged large private banks,” Fitch said.