Whalesbook
Asset Quality Overhaul in Public Sector Banks
Public sector banks (PSBs) across India reported a significant drop in loan write-offs for fiscal year 2025-26, reaching levels not seen in up to eight years. Banks like Bank of Baroda, Bank of India, and Indian Bank saw their lowest write-offs since fiscal years 2018, 2016, and 2019, respectively. This reduction, amounting to billions of rupees, stems from fewer new bad loans and better recovery of previously defaulted loans.
The Ministry of Finance confirmed this trend, noting that PSBs' aggregate gross NPA ratio fell to 1.93% and the net NPA ratio to 0.39% as of March 31, 2026. These figures are historic lows for stressed assets in the sector, pointing to a fundamental improvement in loan portfolio health. The strategy has shifted from simply cleaning balance sheets through write-offs to a more proactive, resolution-driven approach to managing assets. This is supported by stronger provisioning coverage ratios (PCR), which consistently exceed 90% across PSBs.
Record Profits Fueled by Financial Strength
The improved asset quality has been key to the record profitability seen in PSBs during FY25-26. Their combined net profit surged 11.1% year-on-year to a historic high of ₹1.98 lakh crore, marking the fourth consecutive year of profits. Healthy credit expansion, growing 12.8% year-on-year to ₹283.3 lakh crore by the end of FY26, also bolsters this performance.
Valuation-wise, PSBs currently trade at attractive multiples compared to their private sector peers. As of mid-May 2026, Bank of Baroda (P/E ~6.40), Union Bank of India (P/E ~6.60), and Punjab National Bank (P/E ~6.90) show significantly lower P/E ratios than major private lenders like HDFC Bank (P/E ~15.60) and ICICI Bank (P/E ~16.50). Axis Bank trades at a P/E of around 15.90. This valuation gap suggests that while asset quality has improved demonstrably, investor sentiment has not yet fully reflected the sustained financial gains.
Potential Risks Ahead
Despite the positive trends, risks remain. Analysts acknowledge that the current economic environment, while stable, carries inherent risks of increased bad loans in certain credit segments. Historically, NPAs tend to peak after periods of rapid credit growth and economic slowdown, highlighting asset quality's cyclical nature. While PSBs have significantly boosted their provisioning coverage ratios, a substantial economic downturn could still strain their capital.
Furthermore, while write-offs have decreased, the total value of older stressed assets remains a factor. A shift in recovery strategies may not always yield immediate results. Private banks like HDFC Bank and ICICI Bank often manage risk and innovate faster, giving them an edge. The sustainability of current profits also depends on managing net interest margins through changing interest rate cycles and competition from other banks and fintech firms.
Outlook for Public Sector Banks
PSBs' improved asset quality and operational efficiency are expected to continue supporting profits. The Finance Ministry's focus on careful provisioning, better underwriting, and effective risk management signals continued commitment to this positive momentum. While asset quality is stable now, watching economic shifts remains critical. Strong capital, solid balance sheets, and a focus on recovery help these banks face challenges and seize growth opportunities in India's expanding economy.