India’s banks are on the mend from the pandemic’s blow or so their vastly improved repayments would have investors believe so. After all, every lender has reported that collection efficiencies are back to pre-pandemic levels.

Before investors begin the celebrations, they need to focus on what banks did than what banks just reported. Lenders have either increased provisions or maintained them in the September quarter. On an aggregate basis, provisions were down a modest 4.6% year-on-year for the 31 listed banks (excluding small finance banks). That is because a moratorium and a standstill from the Supreme Court helped them keep loans standard which required no provisions. But when it comes to risks related to covid-19, several banks have increased provisions anticipating future risks. But when it comes to risks from covid-19, lenders are anticipating more hits. Defaults are going to increase in the third and fourth quarter of FY21.

Further, the gross bad loan pile of the September quarter is understated due to two forbearances. One is a straight standstill on declaring loans as bad by the Supreme Court in a petition involving compound interest. Until the court gives a verdict, the standstill continues. A Mint story on 9 November says that at least 26,000 crore worth of loans that could have turned bad benefited due to the court’s standstill. Another forbearance is from the Reserve Bank of India (RBI) on loans under moratorium. Note that the moratorium ended on 30 August. Retail loan customers would have seen their skipped equated monthly instalments (EMI) get added to their total loan outstanding. Payment of the September EMI would have kept them as standard account. To be sure, it shows that there is no widespread stress in retail. But that cannot be said about loans to small businesses.

Here, most banks have turned cautious lending to micro, small and medium enterprises (MSME). Beyond the government’s credit guarantee scheme, no lender wants to touch MSMEs with a wide pole. For the banking system as a whole, loans to MSMEs fell by 6,380 crore in the first six months of FY21. The largest lender, State Bank of India’s (SBI) SME portfolio has shrunk 4% during the same period. Further, loans to the services sector fell by about 18,000 crore. The services sector also includes many MSME units. The MSME book is expected to generate much of the stress in the coming quarters, according to bankers.

Analysts expect a rise in bad loans in the remaining two quarters of this year before defaults begin to recede in FY22. A key comfort though is the expected restructuring book for banks. It was feared that once moratorium ends in August, a large swathe of loans would come up for restructuring. However, most banks have said that restructuring would be in low single digits as a percentage of their loan book. “These appear quite encouraging and better than some regional markets. In fact, some lenders like Kotak Bank, ICICI Bank, AU SFB among others have stopped making incremental Covid provisions and many others are likely to discontinue it from 3QFY21 onwards,” analysts at Jefferies India Pvt Ltd wrote in a note.

That said, the stress has only increased ever since the pandemic has begun. That means bad loans are here to stay with banks.

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