After showing improvement in asset quality in FY25, Indian banks’ non-performing asset (NPAs) ratio will likely rise in FY26 due to stress in unsecured retail and small business loan segment and as recoveries and upgrades moderate, ICRA Ratings said in a webinar on Tuesday.
The rating agency said banks’ GNPA ratio, which moderated to a decadal low of 2.5 per cent in Q3FY25, could rise to 2.6 per cent in Q4, and 2.8 per cent by FY26-end. Meanwhile, the net NPA ratio is expected to stay range bound at 0.6 per cent between FY25 and FY26.
“Asset quality remains monitorable amid broader macro-economic developments and the fresh non-performing advances (NPAs) generation rate is expected to rise in the next few quarters, while the recoveries and upgrades are likely to moderate. Consequently, the quantum of gross NPAs (GNPAs) and credit loss provisions would rise; although the GNPA ratio is estimated to remain range-bound by March 2025 and rise in FY2026,” the rating agency said.
The additional guidelines imposed by ‘MFIN’, a Reserve Bank of India (RBI)-recognised SRO for MFI sector, which guides lenders not to extend loans to borrowers with over 3 active loans, will affect such borrowers’ liquidity profile, leading to higher delinquencies.
Credit, deposit growth
ICRA said the RBI’s recent measures including repo rate cut, liquidity infusion, deferring timelines to implement updated guidelines on liquidity coverage ratio framework, higher provision for project finance loans and roll back of higher risk weights will help banks to post 10.8 per cent credit growth in FY26 versus 10.9 per cent in FY25.
Sachin Sachdeva, Vice President & Sector Head, ICRA, said,“The pro-growth regulatory stance has revived the lenders’ appetite for credit growth in Q4 FY2025 after a brief period of slow incremental credit growth in the initial period of FY2025. Accordingly, ICRA estimates the incremental credit expansion to be around ₹19-20.5 trillion, clocking a growth rate of 10.8 per cent in FY2026 compared to credit expansion of ₹18 trillion, or a 10.9 per cent growth rate in FY2025.”
As deposit mobilisation remains a challenge, especially low-cost deposits, lenders are likely to continue seeing pressure on cost of funds. “With an elevated CD (credit-deposit) ratio, the competition for deposit mobilisation is likely to remain high even during FY2026, which will limit the banks’ ability to cut their deposit rates,” Sachedva said.
Profitability to decline
The lending rates may, however, remain under pressure because of the decline in the external benchmark-linked loans and competition from debt capital markets. With expectations of a cumulative 75 basis points (bps) cut in repo rates from February 2025, ICRA expects banks’ net interest margins (NIMs) to decline by 15-17 bps during FY26.
Lastly, though ICRA expects the profitability to trend downwards in FY26 with the return on assets (RoA) and return on equity (RoE) at 1.1-1.2 per cent and 12.1-13.4 per cent in FY2026, respectively, the same are estimated to remain comfortable for the projected growth without a significant reliance of fresh capital requirements.
Published on April 8, 2025
