Whalesbook
Uneven Growth Marks Banking Sector's Q3
Early trends from the October-December quarter of 2025 (Q3FY26) reveal a mixed performance across India's banking sector. System-level loan growth reached approximately 12% year-on-year, but deposit growth lagged at 9.4%. This disparity has driven the loan-to-deposit ratio (LDR) to an all-time high of 81.74%, heightening market sensitivity to balance sheet liquidity.
HDFC Bank's stock experienced a nearly 5% decline despite reporting 12% loan growth and 11.5% deposit growth. The drop was attributed to its LDR nearing 99%, highlighting investor focus on deposit mobilization over mere headline growth figures. "The sector needs deposit growth for it to sustain any amount of loan growth for the next couple of years," noted Vishal Goyal, India financials analyst at UBS.
PSBs and Niche Lending Drive Credit Expansion
Public sector banks (PSBs) emerged as strong performers, with loan growth exceeding 12.5%, outpacing many private sector counterparts. In the smaller bank segment, gold loans have become a significant growth engine. CSB Bank and Dhanlaxmi Bank, for instance, reported over 40% growth in gold loans, contributing substantially to their credit expansion.
Among larger private banks, Axis Bank and Kotak Mahindra Bank presented robust results. Conversely, IndusInd Bank reported weaker growth in both loans and deposits. AU Small Finance Bank continued its growth momentum, while RBL Bank's results, though decent, fell short of market expectations, impacting its stock price.
Policy Support and Margin Outlook
Two key policy developments are poised to support bank profitability. A 100-basis-point cut in the cash reserve ratio (CRR), effective this quarter, and a 25-basis-point reduction in the repo rate are expected to stabilize net interest margins (NIMs) from Q3FY26 onwards. Brokerages anticipate better deposit pricing and balance sheet expansion to aid NIMs.
However, some margin pressure is foreseen for banks like Axis Bank and Punjab National Bank, which have already adjusted their NIM guidance downwards. HDFC Bank and ICICI Bank, however, are projected to report NIM improvements.
Asset Quality Trends Positive
Early data suggests an improvement in asset quality, with early-stage delinquencies showing better performance. This trend is expected to lead to lower credit costs sequentially, particularly for mid-sized banks such as IDFC First Bank, AU Small Finance Bank, and RBL Bank. These institutions remain under scrutiny due to past exposure to unsecured loans.
Profitability Poised for Modest Gains
Overall, the banking sector is expected to see a modest sequential improvement in profitability, with the exception of IndusInd Bank and Bandhan Bank. IDFC First Bank and Yes Bank could post significant year-on-year profit growth, up to 50%, benefiting from a low base. Larger entities like HDFC Bank and Axis Bank are likely to register profit growth in the mid-single to high-teen percentages.
Key stocks to watch include HDFC Bank for commentary on its LDR, RBL Bank, Federal Bank, and Yes Bank following recent capital infusions, IndusInd Bank for its return on assets trajectory, and AU Small Finance Bank and Axis Bank for sustained growth momentum. Ultimately, market valuations will hinge on banks' ability to effectively manage deposits, margins, and asset quality in the coming quarters.