FCNR deposits squeeze margins at three major private banks

Axis Bank, ICICI Bank and HDFC Bank recorded year-on-year declines in net interest margins in the second quarter, with foreign currency non-resident (bank), or FCNR (B), deposits adding to funding costs while the lending and investments associated with those funds delivered relatively modest returns.

The Economic Times reported on October 18 that the margin pressure came even as other profitability indicators remained stable. Axis Bank’s margin fell to 3.46% from 3.80% a year earlier; ICICI Bank’s slipped to 4.18% from 4.30%; and HDFC Bank’s declined to 3.16% from 3.27%.

Net interest margin measures a bank’s net interest income relative to its earning assets. It helps show how effectively a lender earns a spread between the interest it receives and its funding costs; a decline does not, by itself, establish that overall profits have fallen.

Why the foreign-currency funding weighed on margins

Siddharth Rajpurohit, lead banking analyst at Systematix Institutional Equities, attributed much of the pressure to the after-effects of FCNR (B) fundraising. He said the banks had heavily leveraged the deposits, while overseas lending margins of just 50–60 basis points limited the returns available from that activity.

The deposits were also priced as term funding rather than low-cost current and savings account, or CASA, balances. That funding mix added to margin pressure. Separately, funds held temporarily in low-yielding securities before deployment created a drag on returns.

Axis: FCNR accounted for part of the decline

Axis Bank raised $10.62 billion through FCNR (B) deposits. Its September-quarter net interest margin was 34 basis points below the year-earlier level, but executive director Subrat Mohanty attributed 11 basis points of that fall specifically to FCNR (B).

Mohanty linked the pressure to balance-sheet grossing-up associated with self-leveraged FCNR deposits and the cost of carrying liquidity. Surplus money was being held in lower-yielding securities until suitable deployment opportunities became available.

ICICI and HDFC flag different additional pressures

ICICI Bank, described in the report as the largest collector of FCNR (B) deposits, recorded a 12-basis-point year-on-year margin decline. FCNR funding was a contributor, but the bank also lacked the interest income on tax refunds that it had received in the corresponding period a year earlier. The full decline therefore should not be read as an FCNR-only effect.

Executive director Sandeep Batra expected some further pressure because the complete effect of the FCNR deposits had yet to work through the bank’s margins.

HDFC Bank raised $11.5 billion through FCNR (B) deposits and recorded an 11-basis-point margin decline. Chief executive Sashidhar Jagdishan said lending assets had repriced faster than funding costs during the declining interest-rate cycle, adding to the effect of FCNR deposits.

Jagdishan expected margins to improve as the rate cycle changed and the loan portfolio moved towards retail borrowers and micro, small and medium enterprises. That remains management’s outlook rather than an improvement already recorded.