Indian banks' Q2FY27 earnings seen rising 11%; FCNR deposits may weigh on margins: Kotak

The brokerage expects the September quarter to be broadly stable for banks, with net interest income (NII) also projected to grow 11 per cent year-on-year. However, lower treasury income is likely to weigh on banks' non-interest income.

We expect 2QFY27 to be a stable quarter. We expect ~11% yoy earnings growth. We expect NII to grow 11% yoy and non-interest income to decline due to lower treasury income, the report said.

Private sector banks are expected to perform better, with earnings growth of around 20 per cent, while earnings of public sector banks are likely to remain broadly flat.

Kotak said FCNR deposits are likely to be a key factor for banks during the quarter. Banks have mobilised significant funds through the FCNR route, but part of the funds is yet to be deployed as loans. As a result, these deposits are currently earning relatively lower returns through investments and short-term placements.

The brokerage estimates that banks with large FCNR deposits could see their NIMs decline by 10-20 basis points in the second quarter.

According to the report, banks had raised around USD 127 billion in FCNR(B) deposits under the Reserve Bank of India's swap window as of August 31, 2026.

However, Kotak expects the pressure on margins to be temporary. The benefit from lower funding costs is likely to become more visible in the second half of FY27 as banks use the additional liquidity to replace expensive wholesale funding and increase lending.

The cost-of-funds benefit should build over 2HFY27 as maturing wholesale funding is not rolled over and the liquidity moves into loans. That makes the current drag largely transitory, the report said.

The report said the impact of FCNR inflows should gradually ease as banks deploy the funds and replace higher-cost liabilities. Banking system deposit growth stood at 17 per cent year-on-year, supported by FCNR mobilisation, while loan growth remained strong at 19 per cent as of September 15.

Kotak expects improved funding conditions to reduce banks' dependence on certificates of deposit and bulk deposits. It also expects competition for deposits and loans to moderate, which could help stabilise margins, particularly for private sector banks.

On asset quality, the brokerage said there were no major signs of deterioration. It added that segments that had earlier faced stress, including microfinance and other unsecured loans, were showing signs of improvement.

Kotak expects credit costs to decline across banks as fresh loan slippages moderate and recoveries improve.

The brokerage said the full benefit of FCNR inflows would become clearer as banks deploy the funds and replace more expensive sources of funding. (ANI)