Mumbai: Global brokerage Jefferies prefers banks over non-banking financial companies (NBFCs) following the Reserve Bank of India’s (RBI) latest interest rate hike and shift towards a tighter monetary policy stance. The brokerage expects the impact of the central bank’s liquidity measures on banks’ net interest margins to remain limited, while higher funding costs could put pressure on NBFCs and corporate borrowers.
The RBI’s Monetary Policy Committee (MPC) raised the benchmark repo rate by 25 basis points to 5.50% on October 7, marking its first rate hike in nearly four years. The central bank also shifted its policy stance from ‘neutral’ to ‘calibrated tightening’, signalling greater attention to inflation risks.
In a note on the financial sector, Jefferies analysts Prakhar Sharma and Vinayak Agarwal said the RBI’s decision to increase the minimum daily cash reserve ratio (CRR) maintenance requirement could marginally affect banks’ funding costs. However, they believe lenders may be able to pass on some of the additional costs to borrowers.
The brokerage’s preference for banks over NBFCs reflects differences in how the two types of financial institutions fund their lending activities and respond to changes in interest rates.
Why Jefferies prefers banks over NBFCs
Jefferies believes banks are better positioned to navigate a rising interest rate environment, particularly as loan yields adjust to higher policy rates.
Banks have access to several sources of funding, including deposits and market borrowings. NBFCs, meanwhile, rely substantially on borrowings from banks, debt markets and other financial institutions, although their funding structures vary by company.
When interest rates rise, NBFCs may face higher borrowing costs. If they cannot increase lending rates quickly enough, their margins could come under pressure.
Banks can also experience higher funding costs, particularly when deposit rates rise. However, the effect on their profitability depends on the composition of their loan books, the pace at which loans and deposits reprice, and their ability to manage funding expenses.
Jefferies expects the immediate impact of the RBI’s latest CRR measure on banks’ net interest margins (NIMs) to be relatively small.
“It’s a small dilution of NIMs and banks may be able to pass to borrowers,” the analysts said, according to the brokerage’s assessment reported by NDTV Profit.
The brokerage therefore sees banks as relatively better placed than NBFCs as monetary policy becomes tighter.
RBI raises minimum daily CRR maintenance to 99%
Alongside the repo rate hike, the RBI announced a change to the minimum daily maintenance requirement for the cash reserve ratio.
The minimum daily maintenance requirement has been raised from 90% to 99% of the prescribed CRR, effective from the fortnight beginning October 16, 2026. The overall CRR remains at 3% of banks’ net demand and time liabilities (NDTL), and the requirement to maintain the prescribed ratio on average over the reporting fortnight continues.
CRR is the portion of banks’ eligible deposits that must be maintained as cash balances with the RBI. These balances do not earn interest, making CRR an important consideration in banks’ funding costs.
Previously, banks had greater flexibility to maintain a lower proportion of the prescribed CRR balance on individual days, provided they met the required average over the reporting fortnight. The new rule reduces that flexibility by requiring banks to maintain a balance closer to the full prescribed amount each day.
The measure is intended to tighten liquidity conditions and improve the transmission of monetary policy into short-term money market rates.
For banks, maintaining higher balances on a daily basis could reduce the funds available for other uses and increase the cost of managing short-term liquidity.
Jefferies estimates a limited impact on bank margins
According to Jefferies, banks would hold around Rs 8 lakh crore in CRR balances if they maintained 100% of the prescribed requirement.
The brokerage estimates that if the higher daily maintenance requirement increases these balances by 5% to 10%, it could absorb between Rs 40,000 crore and Rs 80,000 crore from the banking system.
That could raise banks’ cost of funds by approximately 1 to 2 basis points, according to the analysts.
A basis point is one-hundredth of a percentage point. A change of 1 to 2 basis points is therefore relatively small in percentage terms, although its financial effect depends on the size of the institution’s funding base and the duration of the higher costs.
Jefferies expects the effect on NIMs to remain limited. Net interest margin measures the difference between the interest a financial institution earns on loans and investments and the interest it pays on deposits and borrowings, relative to its interest-earning assets.
If funding costs rise, margins can narrow unless the institution can offset the increase through higher lending rates, a change in its funding mix or other measures.
Banks may be able to pass on some of the additional costs to borrowers, although the extent and timing will depend on competition, loan contracts and the pace at which lending rates adjust.
RBI’s hawkish shift puts inflation in focus
The repo rate hike and the change in policy stance came amid concerns about inflation, including the potential effect of elevated crude oil prices and geopolitical tensions in West Asia.
The repo rate is the rate at which the RBI lends short-term funds to banks against eligible securities. Changes in the rate influence borrowing costs across the financial system, although the effect on individual loans and deposits is not always immediate.
Following the October decision, the standing deposit facility (SDF) rate stood at 5.25%, while the marginal standing facility (MSF) rate and the Bank Rate were raised to 5.75%.
The RBI also raised its retail inflation projection for the current financial year to 5.2% and increased its real GDP growth forecast for FY27 to 7.1%.
For financial institutions, the combination of higher policy rates and tighter liquidity management creates a more complex operating environment. Lenders must balance the potential benefits of higher lending yields against the possibility of more expensive funding and changes in credit demand.
What higher rates could mean for NBFCs
NBFCs provide loans and other financial services but generally do not operate like full-service banks in their funding structures. Many depend on borrowings from banks and financial markets to finance their loan books.
When the cost of these borrowings increases, an NBFC may need to raise lending rates, absorb the additional expense or adjust its business strategy.
Passing higher costs on to customers is not always straightforward. Competition, borrowers’ repayment capacity and existing loan agreements can limit how quickly lending rates change.
Smaller NBFCs and lenders with greater dependence on market borrowings could face different pressures from larger institutions with diversified funding sources. The actual effect will vary across companies, depending on their balance sheets, asset quality and ability to manage interest rate changes.
The same distinction applies to banks. A bank with a large share of loans linked to external benchmarks may see lending yields adjust more quickly than one whose assets reprice more slowly. Deposit competition can also influence how much of the benefit from higher lending rates translates into improved profitability.
Jefferies’ preference for banks is therefore a sector-level assessment rather than a claim that every bank will outperform every NBFC.
What investors should watch next
The RBI’s latest decisions have put funding costs, liquidity and interest margins back in focus for investors tracking India’s financial sector.
For banks, the key indicators will include deposit growth, deposit pricing, loan repricing, liquidity management and the movement in NIMs. Investors will also be watching whether banks can maintain lending growth without taking on excessive credit risk.
For NBFCs, attention is likely to remain on borrowing costs, access to funding, lending spreads and the ability to pass higher expenses on to customers.
The effect of tighter monetary policy may also differ across lending segments. Housing finance companies, consumer lenders, vehicle financiers and business-focused NBFCs have different customer bases and funding arrangements, so a uniform outcome should not be assumed.
Jefferies expects banks to be relatively better positioned as interest rates rise, while estimating that the direct impact of the CRR change on bank margins will be modest. The RBI’s decisions nevertheless make funding costs and liquidity management important variables for the coming quarters.
The brokerage’s view provides one perspective on the changing environment for financial stocks. Actual performance will depend on individual lenders’ balance sheets, their ability to manage costs and how the economy and interest rate cycle evolve.