M06_C03

Analysis of bank income, expenses, deposit mix, and interest rate risks in advances for risk-based banking performance.

Key Takeaways

Yield on advances and investments are critical indicators of bank income and risk.
Non-interest income is a measure of bank efficiency and service diversity.
CASA deposits reduce interest expenses and improve cost of funds.
Floating rate advances mitigate interest rate risk compared to fixed rate advances.
Deposit mix and franchise value significantly impact bank financial health.

What the video covers

Income side analysis includes yield on advances, yield on investments, non-interest income proportion, and profit on investments.
Yield on advances increase may indicate higher credit risk or higher interest charges on advances.
Non-interest income reflects bank efficiency and service variety; Indian banks have ~15% non-interest income, US/UK banks up to 25-30%.
Expense analysis focuses on the proportion of low-interest deposits, especially CASA (current and savings accounts) in the Indian context.
Cost of funds is calculated as interest expenditure divided by total deposits and borrowings.
Deposit mix ideal proportions are roughly 25% current accounts, 30% savings accounts, and 45% term deposits, influenced by bank's franchise and trust.
Advances are mostly floating rate, split between MCLR (changes every 6 months) and EBLR (changes more frequently).
Fixed rate advances pose risk if interest rates rise; floating rates reduce interest rate risk due to frequent adjustments.
Earlier lending rates like BPLR and base rate were more fixed; now banks primarily use MCLR and EBLR.
Income and balance sheet analysis helps assess risk-based performance including off-balance sheet exposures and loan loss provisions.

Chapters

What does an increase in yield on advances indicate?

An increase in yield on advances may indicate higher credit risk or that the bank is charging higher interest rates on its advances portfolio.

Why is non-interest income important for banks?

Non-interest income reflects the bank's efficiency and the variety of services offered, contributing to service-based income beyond traditional interest earnings.

How do CASA deposits affect a bank's expenses?

CASA deposits, which include current and savings accounts, are low or no-interest deposits that help reduce the bank's interest expenses, lowering the overall cost of funds.

Full Transcript — Download SRT & Markdown

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So briefly again, what is the yield on advances, what is the yield on investment, and what is the proportion of non-interest income, and what is the proportion of profit on investments? These are the parameters in looking at the income side analysis of a bank. These are

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also reflecting about the credit risk and interest rate risk of the bank. Suppose if yield on advances is increasing, the bank may be having more credit risk also possible because the bank may be charging higher interest on advances. So one has to say whether the

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yield on advances is substantially increased because of what is it increased just because of the interest on advances portfolio or it increased both increase in advances as well as the increase in the interest income.

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Similarly, on investments also, when it comes to the proportion of non-interest income, some of the bankers say that non-interest income is a measure of efficiency also. That means how the branch network, how the bank people are used to generate the non-interest income,

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which is the service-based income. It all depends upon varieties of the services the bank is offering. Normally, Indian banks are having non-interest income of around 15% of the total income coming as non-interest income. Whereas if you look at US banks

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or UK banks, they may have a larger portion of the non-interest income, even crossing 25 to 30%, also because varieties of the services are being offered by them, especially capital market services and others, and those services are being charged.

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Here, it comes to an economic expenses analysis. What is the proportion of the low-interest deposits? That means no-interest deposits are demand deposits. Low-interest deposits are savings account deposits. So in Indian context, we can call it as CASA

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deposits. CASA is current account and savings account deposits. So if the proportion of CASA deposits is very high, the bank is likely to have less interest expenses. So what is the overall cost of funds? Cost of funds is

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interest expenditure upon total amount of the deposits and borrowings the bank has taken in a particular accounting period.

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So this is another important point from the expenses point of view. So from the balance sheet point of view, what is the proportion of shareholder funds, CASA deposits, and what is the proportion of the deposit mix? Deposit mix is

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current account, savings account, and term deposits. What is the proportion of this deposit mix?

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If the current accounts are normally 25% and savings account will be slightly 30%, that comes to 25 plus 30, 55%, and if term deposits are 45%, then it would be a great ideal mix. But many banks do not have these ideal

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proportions because generating the deposits depends upon the bank's franchise value, bank's trust and confidence, bank's branch network, and various other parameters are influencing. So frequently looking into the deposit mix and increasing the deposit mix will,

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especially of non-interest liabilities, non-interest deposits, will be reducing the expenses and increase the interest income. Similarly, various types of advances can be seen from the fixed rate versus floating rate advances in Indian context. Now normally larger part of the

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advances are floating rate only, but there are two types of the floating rate: marginal cost lending rate, which often changes every 6 months, and the second type of the interest rate is external benchmark lending rate, which may change very frequently every two

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months or even less than that, one also. So what type of the advances? If the bank is having more amount of the external benchmark lending rate advances, then the bank is exposed to interest rate risk because whenever the

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changes in the interest rates happen, this EBLR portfolio changes accordingly. There can be fixed rate versus floating rate advances. If the banks have advantage of giving the fixed rate, then fixed rate advances can be more. Then normally, if the interest rates are

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going up, if the bank is locked up in fixed rate advances, the bank is having a disadvantage.

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Okay. There is a concept called benchmark prime lending rate and base rate. Earlier, those types of rates were more of the fixed rate advances, but subsequently, the banks have moved to MCLR marginal cost lending rate and EBLR. So

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these are largely floating rate advances. So banks' interest rate risk on credit portfolio or advances portfolio is coming down because of the frequent adjustment to changes in the interest rates. Of course, we discussed about the off-balance

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sheet exposures and loan loss provisions and these things, and when it comes to this, this is how we do the income and balance sheet analysis, which also provides the risk-based performance.

Topics:banking analysisyield on advancesnon-interest incomeCASA depositscost of fundsfloating rate advancesMCLREBLRinterest rate riskdeposit mix

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