Banking in focus: Why investing in Nifty Bank ETF now makes sense

Banks are at the heart of any growing economy and it is a mutually reinforcing relationship. The banking sector plays a key role in India’s economic growth, providing loans for capex, working capital, purchasing homes, vehicles, etc.

India’s banks spent most of the last decade making headlines around mounting NPAs (non-performing assets). But now banks have staged a dramatic turnaround, cleaned up their books, regained their health, restored profitability and re-established investors’ trust. From a loss of about ₹23,400 crore in FY19, the banking sector turned in a record combined profit of ₹1.82 lakh crore in FY22.

PSU banks too underwent a transformation on account of their improved efficiency, digitisation, customer centric approach, consolidation through mergers and improved risk management frameworks. As a result, since 2018, net NPAs have bottomed out.

The banking system today has emerged to be profitable, growing and adequately capitalised. The strength to withstand stressful times was best evidenced by how the Indian banking system remained unscathed by the recent banking crisis seen in advanced economies over the last couple of months.

India is on track to achieving its ambitious goal of becoming a $5 trillion economy in next few years and the banking sector is likely to play a strong role in enabling this growth. As the economy grows, the banking sector will also witness growth. Banks generally grow at 1.5x-2x the rate at which the economy grows. Hence, a continued growth momentum in the economy is likely to aid this sector going ahead.

Also, compared to global standards, banking still remains an under-penetrated segment among the masses. There are just 15 branches per 1000 population as compared to 27 branches per 1000 people in developed countries. This offers further growth potential for the banking sector.

In the light of all this, the Indian banking space makes for a compelling long-term investment opportunity. Currently, banking stocks contribute the highest share of profits among all sectors in the major indices. The top-five banks are also seeing strong credit growth and an improvement in asset quality. Furthermore, Bank Nifty had been under pressure over the past few years owing to FII selling. Going forward, as FIIs resume buying into India, banking could be one of the major beneficiaries.

While the banking sector is poised for growth, one needs to identify a handful of names to harness this opportunity optimally. Since there is a plethora of strong players in the segment, zeroing down on the names to invest in, is no easy task. Sifting through balance sheets and fundamental analysis of each bank is a time-consuming, research-intensive task, which a retail investor may find too challenging. So, direct investing is not an easy option in this space.

The alternative one may consider is a Nifty Bank ETF or an index fund. Both provide access to a basket of securities consisting of the prominent banking names. In case of a Nifty Bank ETF, the offering replicates the Nifty Bank index. By investing in Nifty Bank ETF, an investor gets the opportunity to invest in most of the biggest banks in India in the most cost-effective manner. For example, one of the cheapest offering is the ICICI Prudential Nifty Bank ETF with an expense ratio of just 0.15%.

The Nifty Bank index comprises of a maximum of 12 large banking names. Weightage of each stock in the index is calculated based on its free-float market capitalisation such that no single stock is more than 33% and the weightage of top-three stocks cumulatively is not more than 62% at the time of rebalancing. The index is re-balanced on semi-annual basis in March and September.

To conclude, the banking sector is expected to see further value unlocking given the robust demand for their services, constant innovation in terms of improving operational efficiency along with improving business fundamentals owing to various reforms in this space. As the economy improves, banking stands to gain and one of the easiest ways to reap this gain can be by investing in Nifty Bank ETF.

Chintan Haria is Head of Investment Strategy, ICICI Prudential AMC.