Margins expected to slip, asset quality offers hope

Across brokerages, a consensus is emerging that the September quarter will likely be the weakest for banks this fiscal year, before margins begin to stabilize in the second half, aided by lower deposit costs and a seasonal uptick in loan demand.

Among large private-sector lenders, Axis Bank is expected to post the sharpest sequential decline in margins in the September quarter—reflecting the lagged transmission of repo rate cuts—even as credit growth remains strong.

The bank’s net interest margin (NIM) is projected to fall by around 25 basis points from the previous quarter, a sharper decline than peers due to timing differences in loan repricing, Nomura Global Markets Research said in an October 7 pre-earnings note. Kotak Institutional Equities, meanwhile, pegs the bank’s NIM at 3.5%, factoring in the ongoing rate-cut cycle. Axis Bank’s NIM stood at 3.8% in the June quarter.

Nomura expects credit costs to moderate but stay elevated at about 1.1%, alongside a pick-up in both loan and deposit growth. Kotak projects credit costs at 0.9%.

Axis Bank’s net interest income (NII) is estimated to decline 3% year-on-year (YoY) and 4% quarter-on-quarter (QoQ), while profit after tax is expected to fall 24% YoY and 10% QoQ, according to Kotak Institutional Equities. The brokerage has estimated Axis Bank’s NII at ₹13,035.6 crore and net profit at ₹5,251.3 crore.

“We are building loan growth of 9% year-on-year and 3% quarter-on-quarter. Fee income growth will be sluggish, reflecting weak loan growth. We expect slippages of ₹60 billion, or 2.2% of loans, mostly led by retail and LLP (limited liability partnerships) of 90 bps,” the brokerage said.

In the June quarter, Axis Bank reported a muted performance, with net profit declining 4% year-on-year and 18% sequentially to ₹5,806 crore, dragged by higher retail unsecured slippages and changes in its non-performing asset classification norms.

Total advances rose 8% year-on-year to ₹10.6 trillion as of June 30. Adjusted for technical impacts, gross and net NPAs stood at 1.41% and 0.36%, respectively. Analysts will closely track management commentary on asset quality, margins, and the outlook for loan and deposit growth.

Sector overview

For the sector as a whole, analysts expect margins to bottom out in the September quarter as the full impact of the 50-basis-point repo rate cut in June flows through, while the benefit of deposit repricing remains limited.

This, combined with lower treasury income, will weigh on lenders’ revenues, Kotak said. The brokerage expects banking-sector earnings to decline about 6% year-on-year, with most private banks seeing a sequential NIM drop of 10–15 basis points.

“We expect Q2FY26 to be the trough quarter for banks, with PAT (net profit) declining by 5% year-on-year and quarter-on-quarter, led by moderation in NIMs and weak treasury income. We estimate NIM compression of 5-40 bps QoQ for 2QFY26F, with larger banks faring better than mid-tier banks,” Nomura said.

Brokerage InCred Equities expects margin contraction to be limited for mid-sized banks at around 5–10 bps, given their higher share of fixed-rate loans funded by wholesale liabilities. It forecasts compression of around 8–10 bps for state-owned banks and 15 bps for large private banks.

“For (state-owned) banks, the higher share of MCLR-linked books and limited pass-through in MCLR rates (25–30 bps versus 65–75 bps for large private banks) will cushion some impact,” it said.

Loan growth improves, but deposits lag

The lone bright spot is a pickup in credit growth.

System-level data from the Reserve Bank of India (RBI) shows loan growth improved to 10.4% year-on-year as of 19 September, up from 9.5% in the previous quarter, led by stronger demand from industry and services. Deposit growth, however, trailed slightly at 9.5% versus 10.1% in June, pushing the credit-deposit ratio to 80.3%.

Several private-sector banks, including Kotak Mahindra Bank, CSB Bank, and Karur Vysya Bank, reported robust double-digit loan growth during the quarter, while public-sector lenders such as Bank of Maharashtra and Indian Bank stood out with growth above 12%, Systematix Institutional Equities said.

For large banks, Nomura estimates loan growth of 10-16% and 7-8% for mid-sized banks, with deposit growth steady at 10-15%. Analysts expect the upcoming festive season and rationalization of goods and services tax to further boost credit demand in the second half.

Asset quality metrics

Despite revenue pressures, asset quality provides some relief. Brokerages expect steady slippages and contained credit costs across large banks, even as stress in unsecured retail and microfinance loans lingers.

Floods in northern and eastern India may cause temporary strain in microfinance and loan-against-property segments, but overall delinquency trends are improving and collection efficiencies remain healthy, Nomura said.

Systematix Institutional Equities also expects lower slippages in unsecured and agricultural loans sequentially, supported by recoveries and upgrades.

Kotak echoed this view, expecting asset-quality trends to hold firm, with large banks reporting broadly stable credit costs and mid-sized banks seeing higher provisioning, especially in the MFI segment.

Treasury income offers limited cushion

The June 2025 monetary policy marked a turning point. While the RBI cut the repo rate by 50 basis points (bps)—bringing total reductions in this cycle to 100 bps—it also shifted its stance from “accommodative” to “neutral,” signalling that the easing phase was nearing its end.

At the same time, the central bank front-loaded a 100-basis-point cut in the cash reserve ratio (CRR) to ensure adequate liquidity to support credit growth. The combination of rate cuts and liquidity support reflected a nuanced policy mix: short-term stimulus through liquidity, coupled with caution on further easing.

However, the stance change created uncertainty about the rate trajectory and dampened investor sentiment, pushing government bond yields up by about 20 bps during the quarter. As a result, most brokerages expect treasury income to have halved from the June quarter. Fee income may provide some relief, rising in line with credit growth, while operating expenses are expected to remain stable after first-quarter appraisals.

Public-sector banks such as Punjab National Bank and Canara Bank may see some benefit from lower employee provisions and gains from the sale of priority-sector lending certificates, according to Kotak and Systematix.

Hopes pinned on a recovery in 2H

Analysts agree the second half of FY26 could bring relief as deposit costs normalize and lower CRR requirements free up liquidity. Both Kotak and Nomura expect NIMs to bottom out in the September quarter, setting the stage for an earnings recovery from the December quarter onward.

“A CRR-related credit push is anticipated from 3Q, while lower risk weights on MSMEs and housing are going to push retail credit. Deposit repricing, CRR benefits, and easing retail/MFI stress should drive margin gains and asset quality improvement, leading to normalized credit costs and an earnings rebound from 2HFY26,” Motilal Oswal Financial Services said in a note.

Large private lenders are expected to remain the best placed, with ICICI Bank, HDFC Bank, and Axis Bank topping most brokerages’ preference lists.