The two recent rate cuts by the Bangko Sentral ng Pilipinas (BSP) amounting to 50 basis points is not expected to affect the earnings of banks until the middle of 2025 although the sector has been outperforming in the local stock market.

“The banking sector continued to outperform the market, with rising prices driven by resilient earnings and favorable economic developments,” said COL Financial Chief Equity Strategist April Lynn Tan. 

She noted that “in the past three months, the PSE Financials index rallied by 16.1 percent, outperforming both the main benchmark index, which was up 10.6 percent, as well as the other sector indices.” 

Mid-sized banks led the charge, delivering strong returns over the three-month period. 

Meanwhile, the BSP delivered on the long-awaited rate cuts, lowering the overnight reverse repurchase rate (RRP) by a total of 50 bps in August and October to six percent. For 2025, the policy rate is expected to be reduced by another 100 bps, bringing it to five percent by year-end.

Tan said rate cuts will have mixed impact on bank net interest margins (NIMs), “given that interest rates typically operate with a lag, we don’t expect to start seeing the impact of lower rates on NIM until the middle of next year.”

“We believe that the rate cuts will have a varying impact across the sector. For the banks that carry large proportions of consumer loans, the rate cuts should have a positive impact on NIM," she said. 

“Since consumer loan yields are less sensitive to changes in the policy rate, these banks should see spreads increase as funding costs go down,” she added.

One bank has guided that it expects to see an improvement of five to 10 bps in NIM for every 25 bps reduction in the RRP.

Tan said banks with heavier reliance on time deposits for funding are also expected to benefit from lower rates. Thus, mid-sized banks could see some relief from elevated funding costs.

In contrast, the biggest local banks that benefited from having substantial low-cost deposit bases as rates went up would be more likely to see NIMs decline as their loan portfolios reprice with lower yields. 

“However, the negative impact of rate cuts on NIMs would likely be reduced by banks’ decision to build-up their portfolio of investment securities with high yields,” she noted.

Tan added that “as borrowing costs decrease, businesses could borrow more to pursue expansion plans. Consequently, although banks’ earnings could take a hit from NIM contractions, this may be offset by increasing loan volumes.”

The BSP also recently announced that it will be implementing a reduction in the reserve requirement ratio (RRR) of banks, effective Oct. 25, 2024.  

The RRR of universal and commercial banks (U/KBs) will decrease by 250 bps to seven percent, while the RRR for digital banks will be cut by 200bps to four percent.

Thrift banks and rural and cooperative banks will both see a reduction of 100 bps bringing their respective RRRs to one percent and zero percent.

“We estimate that the 250bps cut this year to introduce approximately P400 billion of additional liquidity into the banking system,” Tan said adding that, “according to BSP Governor Eli Remolona, the central bank is considering further reductions to bring the RRR down to 5 percent in the coming years.”

She pointed out that “from a big picture perspective, the decrease in RRR frees up funds that were not generating income for the bank. Thus, the release of these deposits to be lent out to clients or invested in other interest-earning assets provides an incremental tailwind for earnings. 

“More specifically, for the largest three banks, we are expecting to see 3 to 5bps improvement in NIM for every 100bps reduction in the RRR, equivalent to 7.5 to 12.5bps benefit for the 250bps cut. For the smaller banks, we estimate that NIM could increase by 5bps or slightly more for every 100bps RRR cut," she added.