Contraction in Banking Stocks to around 6 percent due to RBI’s repo rate cut
Banking stocks witnessed a sharp downturn on Tuesday following the Reserve Bank of India’s (RBI) decision to decline the repo rate by 25 basis points, bringing it down to 6%. Though widely expected amid rising global trade tensions and slowing domestic growth, the rate cut triggered a broad selloff in financial sector stocks, mainly hitting public sector banks (PSBs) and gold loan-focused non-banking financial companies (NBFCs).
The RBI’s move, aimed at stimulating economic growth in the face of U.S.-imposed tariffs on Indian exports and global economic headwinds, raised concerns over net interest margins (NIMs) and asset quality pressures in the near term. The Nifty Bank index closed the day lower by 1.8%, with public sector banks accounting for the bulk of the drag.
Public Sector Banks Lead the Decline
Among the worst-hit stocks were the Bank of India, Union Bank of India, Indian Bank, and Bank of Baroda, which saw their share prices tumble by nearly 4% during the trading session. Investors reacted to fears that the interest rate cut would compress these banks’ margins at a time when credit demand remains tepid and deposit costs are sticky.
Despite possessing stronger asset quality metrics, other significant public sector banks, including Punjab National Bank, Canara Bank, and State Bank of India, also recorded declines in the 1.5% to 2% range. The selloff reflects broader concerns about profitability, especially for banks heavily reliant on interest income from fixed-rate lending.
“While the rate cut is positive from a macroeconomic perspective, it creates near-term pressure on banks’ spreads. This is particularly pronounced for PSBs, which have limited pricing flexibility and already operate with thin margins,” said Manisha Rao, a banking analyst at Vertex Capital.
Gold Loan NBFCs Under Pressure
Gold loan NBFCs such as Manappuram Finance and Muthoot Finance also suffered, dropping over 3.5% and 3.2%, respectively. These firms are susceptible to interest rate movements, and the cut is likely to increase competitive pressure from banks offering cheaper loan products, squeezing NBFC market share and profitability. The rate cut also raises concerns about evaluating gold collateral risk, especially if gold prices become volatile or customers opt for early repayments to refinance elsewhere at lower rates.
Moreover, falling interest rates may prompt a revaluation of gold collateral risk, especially if gold prices become volatile or customers opt for early repayments to refinance elsewhere at lower rates.
“Gold loan NBFCs face a dual challenge post the rate cut—competitive pressure from banks and rising risk to loan-to-value ratios if gold prices fluctuate,” noted Akhil Mehta, financial services strategist at EquiTrust.
Why Did the Rate Cut Trigger a Selloff?
Typically, rate cuts are seen as stimulative for equity markets, but the dynamics can be different in the banking sector, especially in the short term. Banks earn money from the spread between deposit and lending rates. While lending rates typically drop quickly in a rate-cut cycle, deposit rates remain higher for longer due to legacy liabilities and competitive pressures, leading to margin compression.
In addition, with the RBI also lowering India’s GDP growth forecast to 6.5%, investors worry that the demand for credit—especially from large corporates and MSMEs—may not pick up quickly enough to offset margin losses. As a result, earnings visibility becomes clouded, particularly for PSBs already under pressure from rising bond yields and modest loan book growth.
Private Sector Banks More Resilient
In contrast, private sector banks such as HDFC Bank, ICICI Bank, and Axis Bank were more resilient. While they also saw marginal losses, the declines were under 1%, reflecting their more substantial balance sheets, diversified income profiles, and better cost controls.
These banks are also better positioned to pass on rate changes swiftly due to their more agile retail operations and digital channels. This allows them to adjust lending and deposit rates faster than their public sector counterparts.
Outlook: Temporary Blip or Structural Concern?
Analysts are divided on whether the selloff in bank stocks is a short-term correction or indicative of longer-term structural concerns.
Some, like Neha Bajaj of Scripwise Investments, believe this is a “knee-jerk reaction” and expect sentiment to stabilize as lending picks up over the next two quarters. “A rate cut cycle typically leads to loan book expansion and lower credit costs in the medium term. The market might be overreacting to short-term margin compression.”
Others caution that banks could face a prolonged period of profitability pressure unless deposit rates ease and economic activity revives meaningfully, especially in sectors sensitive to global shocks and trade dynamics.
Conclusion
Banking stocks, particularly public sector lenders and gold loan NBFCs bore the brunt of investor anxiety over shrinking margins and uncertain credit growth.
As the monetary policy cycle enters a dovish phase, the performance of bank stocks will likely hinge on how effectively financial institutions manage interest rate transmission, balance sheet risks, and competitive dynamics in a softening economic environment.
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The image added is for representation purposes only
