Analyzing India's Banking Sector: Understanding the Past, Present & Future- Part III

In the light of the latest LIC IPO and the upcoming IPOs of Fincare Small Finance Bank and Aadhar Housing Finance in 2022, Captwist brings a systematic analysis of India's banking sector with a primary focus on its growth prospects for the coming years.

Analyzing India's Banking Sector: Understanding the Past, Present & Future- Part III

The one challenge forever present for any investor in the stock market is how to pick the right stock? And say, if somehow you were able to decide that, what is the guarantee that the stock you have invested in will keep growing? Questions like this scare every investor.

So, to make your investing process easy, Captwist recently started a Sector analysis series where we are publishing a range of articles analyzing the different sectors of the Indian economy.

💡
Sector analysis is part of the top-down investment strategy that involves assessing the economic status of a specific sector. It is based on the assumption that different sectors perform differently during the business cycles.

Part III in the series, today, we have covered the BANKING sector.

Simplified classification of banking sector in India

ANALYZING GROWTH OF THE BANKING SECTOR IN INDIA

To present a simplified picture, we will be dividing the trajectory of the Banking Sector into three phases:

  1. Phase I (1950s to 1990s)
  2. Phase II (1990 to present)
  3. Phase III (2022 onwards)

PHASE I (1950s to 2000)

'Bank is to the economy what blood is to the body.'

If you study the various sectors of the Indian economy, the banking sector had the most drastic trajectory. Within a span of 50 years, Indian banks had to go from privatization to nationalization, to mergers, to handling the worst-ever BoP crisis in India, and to bring the economy on track.

Pre-independence India witnessed the establishment of around 500 private and presidency (partly govt. owned ) banks. Of these, three banks- Bank of Bengal (1809), Bank of Madras (1843), and Bank of Bombay (1840), established by The East India Company, were amalgamated to form the Imperial Bank (named as State Bank of India (SBI) in 1955) in 1921.

However, these banks miserably failed to deliver the desired monetary assistance to the government, traders, and very importantly, the rural section of the society. A substantial section was still turning to local moneylenders, the exploitation stories of whom are vast! With the partition, the situation only got worse.

📢
In a 7 August 1969 speech on All India Radio, Prime Minister Indira Gandhi highlighted that the purpose of nationalization is: removing control of the few and providing adequate credit for agriculture, small industry and exports. “Nationalization,” she proclaimed, “is necessary for the speedy achievement of these objectives.”

In the backdrop of such challenges, in 1969, the Government of India nationalized 14 banks under the Banking Companies (Acquisition and Transfer of Undertakings) Ordinance 1969. Later, followed by the nationalization of 6 banks in 1980, all of which were a part of India's planned economy approach.

PHASE II (1990 to present)

The liberalization of the economy, allowing entry of private sector banks post-BoP crisis, and a shift from the government's role as a facilitator rather than controller have resulted in a historical return of 20.4% CAGR for the banking sector since the introduction of NIFTY Bank Index 20 years back.

📈
In 2000, India Index Service and Product Limited (IISL) launched the NIFTY Bank Index. It a separate sectoral weighted index of 12 top Indian banking companies (public banks + private banks) listed on the National Stock Exchange.
Click here to check the latest updates of NIFTY Bank Index.
NIFTY Financial Services Historical Index Source: IndianCompanies.in

Today, India's banking sector has exponentially grown into 12 public sector banks, 22 private sector banks, 46 foreign banks, 56 regional rural banks, 1485 urban cooperative banks and 96,000 rural cooperative banks,  in addition to other financial institutions like cooperative credit institutions, finance institutions, insurance companies, finance companies, etc.

Top 5 banks in NIFTY Bank Index Source: Tickertape.in  Last updated: 17.5.2022 @3:30 P.M.

Now let us look at the strengths of India's Banking sector?
Note that these are the same reasons that make the Banking sector an attractive place for buying stocks.

Vein of the economy

As mentioned earlier, the growth of an economy and the growth of its banks are interdependent. In other words, if you can see the economy growing in the coming years, there is underlying growth in the banking sector. Innovations paired with policy initiatives (discussed later), an increase in the working population and growing disposable income are constantly raising the demand for banking and related services. Therefore, a range of factors are in play to contribute to the sectors' growth.

Banking Sector Credit (% to GDP) Source: Economic Survey 2019-20

Innovation

The constant innovations in the IT sector like the introduction of digital payments, card-less cash withdrawals, extending ATM services, etc., bear a direct benefit to the banking sector. According to RBI the two major advantages of technological adoptions are:

  1. Reduction in banks operational cost.
  2. Facilitating more efficient transactions among customers with in the same network.

Over the year RBI has increased the role of technology in the day to day operation of banks. The IT Vision Document, 2011-17 of the Reserve Banks sets out the roadmap for implementation of key IT applications in banking sector.

Policy support

In the Budget 2022-23, the Minister of Finance made some key announcements like the emphasis on the multi-modal supply chain- setting up of 75 Digital Units in 75 districts, connecting post offices to the core banking system to ease transactions, setting up of National Asset Reconstruction Company Limited, and many others, all of which aim to reduce cases of bad banks and increase credit.

Moreover, various welfare schemes launched by the Government like the Atal Pension Yojana, Pradhan Mantri Jan Dhan Yojana, Pradhan Mantri Jeevan Jyoti Beema Yojana, mandate the opening up of bank accounts, along with promoting financial inclusion.

Source: IBEF

PHASE III (2022 onwards)

As a result of tech innovations, by 2025, India's fintech market is expected to reach Rs. 6.2 trillion (US$ 83.48 billion), where the value of digital payments in India will alone account for $1 trillion by financial year 2026, a three-fold jump compared to $300 billion in financial year 2021.

In a recent interview, Ganesh Vasudevan, Research Director at IDC Financial Insights comments, "with the stress on economy receding, as indicated by surging Index of Industrial Production (IIP) and Goods and Services Tax (GST) collections, corporate banking is poised to gain momentum in India in the immediate future. Traditionally the corporate banking space in India has been dominated by global banks, however large domestic banks are increasingly gaining market share with aggressive investments in technological and operational capabilities, narrowing the gap with their global competitors.

Conclusion

According to a report by Boston Consultancy Group, as a result of the fast growing GDP, India's banking sector is set to become the third largest sector (by asset size) in the world by 2025!

In simple words, banking sector of India does have a promising future because banks have many roles to play, such as a creditor, a facilitator of foreign exchanges and commerce, checking inflation, maintaining the value of the currency, etc. To sum up the importance in a sentence, a country cannot allow its banks to fail!

💻
Click here to read- Part I: Analyzing India's IT Sector
🍫
Click here to read- Part II: Analyzing India's FMCG Sector
💡
If there's anything you want us to cover in our next article, please write us at 'hello@captwist.in'