Robert T Kiyosaki, the renowned writer of “Rich Dad Poor Dad”, writes in his book “Guide to Investing” that risk in investment arises from being out of control, which implies our banking sector. The share market bears the brunt of the banks and financial institutions’ uncontrolled investment in the real estate, according to the six month’s financial result published by the bank and financial institutions.

The financial report of listed commercial banks revealed an increase in loan loss provisioning by 58 per cent compared to the same period last year. The increasing amount of provisioning has pulled the banks’ profits down. The net profit in the last six months has decreased by 18 per cent over the same period last year. The figures revealed that the share investors would not enjoy dividends for another couple of years, which might discourage them from investing in the share market. Out of the twenty-five listed commercial banks (including Sanima Bank), 20 banks paid dividend in cash and stock form from last year’s profit. The average percentage of dividend paid by the commercial banks for the fiscal year 2067-68 has declined to 31.96 per cent from 38.93 per cent a fiscal year ago.

The financial sector is not only the dominant sector in the share market in terms of number of shares, but also considered as a high dividend payer. The declining dividend percentage of the banks is also reflected in the banking index pulling the Nepse down. The banking index fell by 28.06 per cent and pulled the Nepse index by 24.05 per cent during the same period. Commercial banks are the major movers and shakers of the share market. Therefore, improvement in the financial strength of the banking sector is necessary to improve the stock market from the current level.

The average percentage of non performing assets (NPA) of the listed banks increased from 2.74 per cent last year to 3.24 per cent in the current fiscal year.

This indicates that the risk in the banking sector has increased in the current year compared to the last fiscal year. The amount provisioned in the loan loss may not be cleaned up soon to increase profit, and the situation can not be expected to improve in the current fiscal year.

The main reason behind this is the current strategy followed by the real estate investors. They are adopting — buy, hold and pray for the price rise strategy - which is not profitable for the banks and investors themselves. They should change their strategies and start cutting the piling losses. The increasing due interest and decreasing value of land will flush them out, if they do not change their strategy.

Due to increasing risk in the banking sector, investors need to shift their portfolio to other growing sectors. The possible sector to shift their portfolio could be hydro-power. The manufacturing industry dominated the share market initially, when the Nepse started its transaction formally in 2050 BS. The manufacturing industry domination continued till 2057 BS. There was a huge attraction of investors towards the banking shares from 2060 BS to 2065 BS. Now, the current trend shows that the next mover and shaker of the share market is going to be the hydro-power sector that is also expected to dominate the share market longer than other sectors like manufacturing, and in the current situation banks and financial institutions sector.

The increased risk in the banking sector is also due to the use of over-leverage by the real estate investors without regular cash flow. Investors, in any sector, should know the risk of debt (leverage) in financing. The use of high amount of debt will be better only at a time when the situation remains favourable. Therefore, it is said that using high leverage is “good time better, bad time worse”. Currently, it is a bad time for the borrowers for two reasons. The first one is that the bank and financial institutions are not ready to lower the lending rate because the cash crunch in the real estate sector has increased the credit risk of the banks; and secondly, the banks are not expected to finance the inflated value of real estate even if the central bank further relaxes the lending policy.

Furthermore, the banks are not expected to provide privilege to the borrowers by cutting the lending rate immediately, and even the liquidity situation has been comfortable compared to the previous year’s level by 17 per cent in the first six months. They are trying to compensate the cost of over-liquidity from the high interest rate lending in the past. The report shows that most of the banks do not have adequate space for additional lending due to their tied capital adequacy ratio (CAR). Six banks, out of 25 listed, have their CAR almost equal to 10 per cent - a minimum ratio to be maintained by the banks — 7 have in between 11 to 13 per cent and the rest have above 13 per cent. To increase lending without pushing CAR below 10, the banks must increase their capital base first.

The borrower must also be aware that ‘banks lend an umbrella when the weather is fine, and ask for the umbrella back when it starts raining’.

source:  BHATTARAI,RABINDRA(2012),"Over-leverage by banks Hitting the investors ", The Himalayan Times, 13 March 2012

Bhattarai is a share market analyst