IDFC First Bank fraud is no black swan in Indian banking

Summary: Many investors treat banking shocks as isolated events. History says they are not. See what bank failures over the last 15 years reveal about survival in this industry.

If there is one thing those always hunting for ‘the next HDFC Bank’ get wrong, it’s this: banking is a game of the survival of the fittest. And the odds are almost never in your favour.

The fraud at IDFC First Bank last week brings this brutal reality of the industry back to limelight. And also makes it a good time to jog up our memory.

The class of 1994 and Indian banking’s mortality rate

In 1993-94, the Reserve Bank of India decided that India’s banking system needed competition. The public sector banks were bloated, slow, and customer-hostile. So, the RBI issued licences to 10 new private banks. Among them: HDFC Bank, ICICI Bank, UTI Bank (now Axis Bank), IndusInd Bank, Global Trust Bank, Times Bank, Centurion Bank, Bank of Punjab, DCB Bank and IDBI Bank.

Four of the 10 did not survive. Global Trust Bank collapsed under the weight of bad loans and accounting fraud. Times Bank failed to scale. Centurion Bank and Bank of Punjab staggered before being absorbed. Two of those four were eventually swallowed by HDFC Bank itself. It did not merely outperform its peers. It consolidated them.

A 40 per cent mortality rate in 15 years. That is not an industry for casual stock-picking. It also tells you that casualties are a feature of the business.

Three decades later, the original HDFC Bank is sitting as the largest private bank in the country by every measure that counts. Compare that with the many others who were touted as its successors:

• Yes Bank has fallen 95 per cent from its peak
• Bandhan Bank, once the market’s favourite microfinance story, is down over 70 per cent from its all-time high. 
• RBL Bank has halved amid management churn and asset quality scares.
• IDFC First Bank had already declined 30 per cent before last week’s events. On Monday alone, it lost another fifth of its value.

What it takes to become an HDFC Bank

HDFC Bank’s story is boring. Magnificently, relentlessly boring. Aditya Puri ran the bank for 26 years, and in that entire time, there was no dramatic turnaround, no audacious acquisition, no breathless “growth at all costs” phase. 

Just conservative underwriting, quarter after quarter, cycle after cycle. The daily discipline of saying no to risky loans, of building systems that catch fraud early, of growing deposits one customer at a time, is what created the success.

Contrast this with Yes Bank, for instance. Rana Kapoor’s story was all about success. The stock was flying. The quarterly numbers were dazzling. The branches were multiplying. Nobody cared about the quality of each loan, the integrity of each underwriting decision. And its success evaporated overnight. Rs 1 lakh crore of market cap halved in a matter of time.

How to think about bank stocks

At Value Research, we begin with a simple recognition. The stakes in banks are different.

Banks are similar to highly leveraged manufacturing companies. A small issue can deal a brutal blow to underlying equity as an average bank operates at 8–10 times equity. When even a small portion of those loans sour, the impact on equity is magnified. In simple words, if the bank loses 10 per cent on its loans, shareholders lose 80–100 per cent of their investment. This is the arithmetic of every banking crisis in history.

Two, every mid-tier bank has a strategy document that reads like a blueprint for becoming the next HDFC Bank: grow retail, build deposits, invest in technology. The words are identical. The outcomes are wildly different. What separates the compounders from the destroyers is not vision but the boring, invisible plumbing of underwriting discipline and operational controls.

Three, fraud in banking is not a black swan. It is an endemic feature. India’s banking system lost Rs 36,000 crore to fraud in FY25, nearly double from the prior year. The question is not whether a bank will experience fraud, but whether its controls will catch it early. And that is impossible for an outside investor to assess until it is too late.

Four, if you must own bank stocks, own the best and be patient. HDFC Bank did not become HDFC Bank by trying to be the next anything. It did the boring, unglamorous, deeply difficult work of being a good bank for 30 years. That is what no ‘cheap’ valuation multiple can buy.

What the IDFC First Bank episode teaches

The Rs 590 crore fraud at IDFC First Bank’s Chandigarh branch amounts to just 0.2 per cent of deposits. A pinprick. Yet it exceeded an entire quarter’s profit. The market erased a value many times larger than the loss itself. This tells you that investors were not pricing the fraud itself, but the lack of checks to spot such fraud. The fear was that more could be underneath that hasn’t been discovered.

That is the real stakes in banking. It is never about the known loss but the unknown lurking behind it.

If you hold the stock and are nursing losses, the investment may not have worked. But the lesson need not be wasted, which is that banking is a business where the floor can disappear.

In most industries, a 30 per cent decline signals stress. In banking, it can be either an overreaction or the opening act of a far deeper fall. The difficulty is that you cannot reliably tell which in real time.

So what do you do with this lesson? You take it into account in your next investment decision. You ask harder questions. You demand a wider margin of safety. You treat every bank stock with research that borders on suspicion. And if you cannot bring yourself to do that, you invest in banks through funds that do the worrying for you.

No investment is wasted if it sharpens your judgement for the next one.

And if you want help in making informed and confident investing decisions, Value Research Stock Advisor offers that and more. Our job here is to separate durable businesses from fragile stories. We analyse financial strength, governance track record and downside risk with the same intensity that others reserve for growth projections. The goal is simple: help you avoid capital loss and participate in long-term wealth creation with confidence.

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Also read: Two rules for fraud victims