Policy rate cut to undermine banking profitability

KARACHI: Banking profitability has been estimated to be adversely affected by the latest cut in key policy rate by the State Bank of Pakistan (SBP), analysts said on Monday.

“The banking profitability to be adversely impacted by 2.5 to 3 percent due to cut in the policy rate,” analysts at Arif Habib Limited Research said.

The central bank on May 21 surprised the market by reducing key policy rate by 25 basis points to 5.75 percent from six percent.

However, the analysts said that this could result in additional revaluation gains, which could more than offset the negative impact.

The analysts said that the rate cut would not excite the market, although the recent slash is a surprise for the investors.

“The banking sector, being the heavyweight, would dominate the market sentiments attributable to further net interest margin (NIM) compression anticipated, going forward,” the research said.

It also highlighted that the timing of cut has been critical, as it comes at a time when Rs1.4 trillion of Pakistan Investment Bonds (PIBs) are expected to be rolled over; the government is signaling banks to settle for lower yields.

Additionally, the recent cut would not have a meaningful impact on the corporate profitability given fast pace deleveraging witnessed in the last one-and-a-half years.

The analysts said that the surprise was also conflicting to the consensus view, as the majority was of the opinion that the interest rates have bottomed-out.

Consequently, the reverse repo (ceiling) and repo rates have been effectively set at 6.25 percent and 4.25 percent, respectively.

Analysts at InvestCap Research also forecast further shrinking margins for the banking sector.

However, their profitability is likely to remain intact due to revaluation gains in the PIB's portfolio,” it said.

Some market analysts see some room for further reduction in rates, to spur growth. However, they expected the SBP to keep rates on hold in the near future, owing to rising inflation.

“A marginal upward move in inflation figures in the upcoming months would be in line with the SBP estimates; however, if those numbers inflate somehow, the SBP will have to revisit its rates policy sooner than later,” it said.