Is the bank in your portfolio healthy? Check how it fares on these 7 key metrics

In two of our previous stories, we laid out a guide to help you read the profit & loss statement and balance sheet of banks and non-banking financial companies (NBFCs). But if you hold a banking stock or are planning to invest in one, you also need to know how to assess their financial health and overall quality. This can only be done by understanding the core financial metrics that measure their performance. We have laid out these metrics below, explaining what they indicate about a bank or an NBFC's operations. So, let's begin. 1) Net interest margin We know that the net interest income (NII) is an absolute figure that reflects the total income of a bank (total interest earned minus interest expended). Net interest margin (NIM), meanwhile, is NII expressed as a percentage of the bank's interest-earning assets (loans and investments). This margin reflects the income the bank makes from every Rs 100 it lends—so, naturally, a higher margin is better! Why look at NIM instead of NII? A large bank might report a high NII simply because it handles more money, but that doesn't necessarily indicate efficiency. NIM, however, reflects how efficiently the bank is utilising its loans to generate profits. A higher NIM indicates that the bank is getting more profit out of each unit of its assets (like loans), regardless of its size. Take an example of two large banks. In FY24, State Bank of India (SBI) reported an NII of Rs 1.6 lakh crore, while this was Rs 26,000 crore for Kotak Mahindra Bank. While SBI's income was much higher than Kotak's, its NIM was just 3.3 per cent against the latter's 5.3 per cent, suggesting Kotak fared better than SBI on efficiency. 2) CASA ratio Customers deposit money in banks through savings and current accounts, fixed deposits, and recurring deposits. Among these, current and savings accounts (CASA) are the cheapest source of funds for banks as they carry low interest rates. The CASA ratio is a key metric that measures how much of the bank's deposits are in the current and savings accounts out of its total deposits. A higher CASA ratio means that a larger proportion of the bank's deposits come from current and savings accounts, meaning it has a healthy access to low-cost funds, which helps it boost its profitability. To evaluate it more effectively, compare a bank's CASA ratio with that of its peers and monitor the trend over time. A rising ratio suggests a strong deposit base, while a decline might indicate competition or challenges in retaining low-cost deposits. Also assess how the bank is growing CASA deposits—expansion, digital banking, and customer service are usually positive signs. However, if the growth is driven by higher interest rates on savings accounts, it might hurt profitability. (Note: CASA ratio doesn't apply to NBFCs as they can't raise money through

This article was originally published on September 02, 2024.