5 June 2019: ICICI Bank and Axis Bank both found their rating for foreign issuances downgraded to so-called junk rating or below investment rating earlier this week by Fitch.
Fitch’s reason: The operating environment doesn’t warrant a bbb- rating for these lenders. Both these lenders now carry the rating bb+ on their foreign currency issuances and depository receipts. Other ratings pertaining to domestic issuances are unchanged.
The problem for the lenders arising out of these downgrades is that cost of borrowing overseas goes up. Indeed, Bloomberg shows that the yield on both ICICI Bank and Axis Bank’s dollar bond rose in international trade after the downgrades.
But the rise was marginal largely because Fitch’s reasons for downgrade have already been largely factored in by the markets.
Fitch’s argument is that there seems to be no resolution in sight for assets stuck in insolvency proceedings and bad loans outside courts as well. Considering the slowing economy of India, resolution for banks is going to be tricky.
This means that further additions to bad loans cannot be ruled out which in turn has implications for capital and profitability.
“Indian banks are looking at a tough year ahead as resolution is slow. These are known facts but FY19 has been a good year for some of them. A downgrade now sends a wrong signal,” said an analyst from a global brokerage firm requesting anonymity.
To be sure, analysts believe that the rating agency’s move is unfair as lenders have reported improvement in their metrics in FY19.
Both ICICI Bank and Axis Bank reported a notable improvement in asset quality compared with their peers.
That said, Fitch’s downgrade is a wake up call for Indian policymakers and lenders.
Foreign capital is impatient and to keep attracting it, it is not just necessary to fix the banking sector but to fix it quickly.
For that to happen, insolvency resolutions should pick up pace and recoveries should increase. Most large corporate lenders have shown encouraging signs in recoveries but their write-offs too are high. In other words, lenders are simply writing off loans after providing for them through capital instead of getting their money back from errant borrowers.
As for rating agencies, analysts believe that Fitch’s move may not hurt the private lenders but if other rating agencies follow, banks would find themselves in a bind for raising capital.