Do your favourite bank stocks pass the ‘Buffett filter’?

Q4 report card

Macroeconomic headwinds and slowing credit growth had made the market nervous about the banking sector’s March quarter show. Despite these challenges, banks posted a commendable performance, with many frontline lenders exceeding analyst expectations on the back of healthy deposit accretion, stable margins and stellar asset quality.

Cementing its status as the banking industry’s new posterboy, ICICI Bank delivered a blockbuster set of numbers. India’s second-largest private bank recorded an 18% jump in standalone net profit to ₹12,629.58 crore in the fourth quarter of 2024-25, compared to ₹10,707.53 crore in the year-ago quarter. Domestic loan growth stood at a healthy 13.9%, while deposit accretion was a tad higher at 14%.

“Banks demonstrated credit expansion in Q4, particularly in retail and MSME segments. ICICI Bank showed high-teen loan growth across retail, SME and corporate sectors, emphasizing a 360 degree customer-centric strategy. Similarly, State Bank of India (SBI)’s loan book grew 12% year-on-year and it aims for 12-13% in FY26 despite global tariff uncertainty,” Narendra Solanki, head of fundamental research, investment services, at Anand Rathi Shares and Stock Brokers, told Mint.

Another key trend was the continued emphasis on digital transformation.

“Banks continued to invest in digital platforms to enhance customer engagement and operational efficiency. For instance, ICICI Bank expanded its digital ecosystem with platforms like iMobile Pay and InstaBIZ, contributing to deeper customer relationships,” he added.

India’s largest private sector lender HDFC Bank, which has been hamstrung since its heavy-duty merger with parent HDFC in July 2023, too displayed signs of its former glory.

Shares of the company surged to its lifetime high on 21 April after it clocked a 6.7% year-on-year growth in profit at ₹17,616 crore in the fourth quarter, while its net interest income (NII) increased 10.3% year-on-year to ₹32,070 crore.

After a soft third quarter, loan growth rebounded to 5% on-year. Commercial and Rural Banking (CRB) group, which serves segments like MSMEs, commercial agriculture and small farmers, continued to be the primary driver, expanding 12%.

Importantly, its keenly-tracked metric of loan-to-deposit ratio (LDR), which had swelled from 85-87% to an unsustainable 110% post its amalgamation with HDFC, has moderated to 96.5% now. The management exuded confidence of reaching the pre-merger levels by 2026-27.

The LDR, which compares a bank’s total loans to its total deposits for a given period, is a key tool for assessing the liquidity of a lender. A high LDR means a bank may not have enough liquidity in case of any unforeseen fund requirements. While the Reserve Bank of India (RBI) does not have any regulatory threshold for LDR, it is understood that the regulator is comfortable with a range of 70-80%.

HDFC Bank’s merger with parent HDFC in 2023 added a large pool of loans to its portfolio but a much smaller amount of deposits, skewing its LDR and putting it under pressure to increase the pace of raising deposits.

On the deposits front, HDFC Bank outpaced the system and expanded its deposits by 14% on-year. The ratio of Casa (current account and savings account) deposits—the cheapest source of funding for banks—improved to 34.8% from 34% in the previous quarter.

That said, the overhang of slowing credit growth was visible in the lenders’ numbers for the full fiscal year 2024-25.

“Key themes from frontline banks’ results included a moderation in overall credit growth, which slowed to around 11-12% for FY25 compared to the higher teen growth seen in previous years. This slowdown is mainly due to banks exercising caution in unsecured loans and microfinance segments, while secured lending continued to grow steadily,” Ajit Mishra, senior vice president, research, at Religare Broking, said.

Another notable trend was the improvement in Casa ratios across most banks, supported by the economy entering a rate-cutting cycle and improved system liquidity.

Ledger laggards

That said, some lenders displayed deeper signs of strain. This was the result of both a challenging operative environment as well as company-specific factors.

Axis Bank reported flat earnings growth led by around 2% year-on-year operating profit growth. Loan growth slowed to 8% year-on-year with retail loan growth at 7%, while SME loans expanded by about 13%. Deposits grew 10%, well below its peers.

Kotak Mahindra Bank’s profitability in the fourth quarter was dragged by stress in its microfinance portfolio and consequently slower growth in its agriculture and rural portfolio. Growth in the retail portfolio was also slow as the lender was unable to expand its high-yielding credit card book because of RBI’s embargo on the bank onboarding new customers. The embargo was lifted after 10 months in February.

India’s largest lender, SBI, clocked a 10% drop in net profit at ₹18,643 crore, hit by a one-time pension provision, even as treasury gains propped up its bottomline. SBI’s loan growth of 12.5% on-year in the fourth quarter was marginally better than the system loan growth of 11%. Its deposit growth at 9.5% was marginally below the system deposit growth of 10%. The bank also reported a 3% year-on-year growth in net interest income to ₹42,775 crore.

That said, the good news is that even for the laggards, operational metrics remained largely stable, including asset quality and net interest margin (NIM)s—which is the difference between the interest earned on loans and that paid on deposits.

Choppy waters

In 2002, US secretary of defence, Donald Rumsfeld, suddenly became the unofficial patron saint of management consultants, thanks to the following masterclass in situational analysis:

“As we know, there are known knowns; there are things we know we know. We also know there are known unknowns; that is to say we know there are some things we do not know. But there are also unknown unknowns—the ones we don’t know we don’t know. And if one looks throughout the history of our country and other free countries, it is the latter category that tends to be the difficult ones.”

Applying this framework to the domestic banking sector, the two biggest ‘known knowns’ for lenders at this juncture are the inevitable NIM compression given the start of the rate cut cycle, and the continuing slowdown in credit growth amid macroeconomic headwinds.

The RBI has cut rates by a cumulative 50 basis points since February 2025, and is on track to reduce interest rates further as inflation is within its target range. Falling interest rates will put banks’ margins under pressure as loans are repriced almost immediately, but deposit rates are stickier. Also, with loan-to-deposit ratios still at elevated levels, banks’ ‘war for deposits’ has still not subsided, which means lowering fixed deposit rates will further turn away depositors who anyways have made a beeline for other avenues like equities.

Macroeconomic headwinds and the resultant slowdown in credit growth have been weighing on the domestic banking sector for the past few quarters. As per latest RBI data, non-food bank credit growth slowed to 12% as on the fortnight ended 21 March 2025, compared to 16.3% during the corresponding fortnight of the previous year (i.e., 22 March 2024).

Growth in credit to agriculture and allied activities nearly halved to 10.4%, while credit to industry expanded by 8%, same as the previous year’s level. Credit to services sector increased by 13.4%, as against 20.8% in the year-ago period, primarily due to decelerated growth in credit to non-banking financial companies.

In a report last month, domestic brokerage firm Kotak Institutional Equities flagged the three major headwinds for the sector, especially the private banks.

“We observe the following trends for large private banks: (1) loan growth has slowed with no signs of recovery, (2) deposit growth still remains sluggish, and (3) despite rate cuts, banks have been relatively slow in cutting deposit rates, suggesting that near-term NIM may face potential disappointment,” it said.

Which brings us to the biggest ‘known unknown’ for banks – how the growth dynamics play out in the face of US President Donald Trump’s tariff pirouettes.

This uncertainty was acknowledged by most bank managements during their post-earning concalls, including SBI which revised its credit growth outlook downwards to 12-13% from 14-16% earlier. “I think the uncertainty on tariffs is going to impact the overall economic scenario and investment scenario. So, from that background, we believe that there will be some moderation in the credit growth phase,” SBI chairman C.S. Setty said.

Analysts are also keenly watching the geopolitical situation with respect to Pakistan, though going by the market reaction, so far, it is not expected to be a major factor in India’s macroeconomic health.

Wind in sails

Investors find themselves faced with a dilemma. On one hand, as noted above, banks are showing remarkable resilience in a tough environment, with stable growth in deposits and advances, including higher-margin segments like retail and SMEs, and that too without compromising on asset quality. Bank valuations too are near 10-year averages, offering a margin of safety. Bank Nifty is trading at a price-to-earnings ratio of around 15, compared to its 10-year average of 24.7.

But will these be enough to offset the considerable challenges looming on the horizon? And where exactly should one position himself within the banking space?

“In a situation of interest rate cuts, banks that have a higher proportion of low-cost deposits, a strong retail lending focus as opposed to a corporate-heavy loan portfolio, and diversified sources of revenue are likely to be better positioned,” Anand Rathi’s Solanki said.

Within the financial sector, particularly among mid-sized banks and NBFCs, there could be an increase in credit risk, especially among those with considerable exposure to MSMEs, a segment more vulnerable to external shocks.

“Given these risks, investors are advised to prefer financial institutions with well-diversified lending portfolios and minimal concentration in sectors that are more likely to experience stress under such macroeconomic conditions,” he added.

Not to forget, size does matter.

“Amid market volatility, large-cap banks have robust capital buffers, better asset quality, and diversified income streams that help them navigate uncertain economic conditions more effectively. They also benefit from higher liquidity and institutional investor support, which can support sharp price swings,” Solanki pointed out. “In contrast, mid-cap banks, while potentially offering higher upside in bullish phases, are more exposed to credit risk, earnings volatility, and sentiment-driven sell-offs,” he added.

‘Investors should take a long-term view on the banking sector, with realistic return expectations of around 12-13%.’
—Ajit Mishra

Other experts recommend both lowering expectations and increasing one’s investment horizon.

“Given the current backdrop of heightened global uncertainty, investors should take a long-term view on the banking sector, with realistic return expectations of around 12-13%. In the near term, earnings growth is likely to be moderate due to margin compression amid the ongoing rate-cutting cycle, which may limit immediate re-rating potential. However, over the medium to long term, banks have the potential to grow at approximately 1.5 times nominal GDP, positioning them well to deliver attractive returns,” Religare’s Mishra said.

He too thinks that from a risk-reward perspective, large-cap banks offer a more compelling valuation proposition compared to mid-cap players.

“Their diversified portfolios, lower cost of funds, and stronger balance sheets enable them to sustain asset growth with less margin pressure. Conversely, mid and small-cap banks often have concentrated sector exposures, making them more vulnerable in uncertain market conditions,” he noted.

In other words, for investors looking to build a quality portfolio, buying a well-managed business at a fair price would surely pass the ‘Buffett filter’. Unless, of course, there is some ‘unknown unknown’ lurking in the shadows.