The CRISIL Ratings credit ratio, or the proportion of rating upgrades to downgrades, moderated in the first half of this fiscal to 1.91 from 2.19 in the second half of last fiscal (see chart in annexure).

There were 443 upgrades and 232 downgrades. A ratio above 1 means upgrades outnumbering downgrades.

The first-half upgrade rate dipped marginally to 12.70% compared with 13.46% in the preceding half. However, it continues to be above the decadal average of ~10%. The upgrades were driven by an expected expansion in cash flows this fiscal for sectors linked to domestic demand and for those benefiting from high government spending. These sectors, such as infrastructure, services and consumables, kept the overall upgrade rate elevated.

Says Gurpreet Chhatwal, Managing Director, CRISIL Ratings, "Infrastructure and linked sectors¹ accounted for around 29% of the upgrades in the first half. To be sure, infrastructure has benefited not just from high budgetary allocation, but also from better risk sharing among stakeholders and acceptance of investment vehicles such as InvITs, or infrastructure investment trusts."

The overall downgrade rate, meanwhile, rose to 6.65% (6.14% in the previous half), inching closer to the average of ~7% for the past decade. The downgrade rate was seen inching up for export-oriented sectors as well, even as strong balance sheets somewhat cushioned the impact of heightened risks overseas.

The proprietary CRISIL Ratings Corporate Credit Health Framework provides our credit quality outlook on 43 sectors (accounting for ~75% of the rated debt²) for the fiscal. It analyses operating cash flow strength (change in absolute estimated Ebitda3 on-fiscal) and balance sheet strength expected by this fiscal-end.

The key takeaways from the fourth edition of the CRISIL Ratings Corporate Credit Health Framework:

• The most buoyant bucket has 21 sectors - compared with 19 in H2FY23 - with favourable cash flows (more than 10% expansion in estimated Ebitda) and robust balance sheets. They account for 44% of the overall rated debt. Sectors aligned to the domestic story, such as automobile manufacturers and ancillaries, dairy, fast-moving consumer goods, renewable power, primary steel, capital goods, cement and hospitality dominate this bucket. The sectors in this bucket have a positive credit quality outlook
• There are 16 sectors with strong to very strong balance sheets and moderate operating cash flow strength (0% to 10% expansion in operating cash flows). Their credit quality outlook varies from positive to stable. These include segments of the infrastructure sector such as road assets, thermal power, construction and engineering, and real estate
• Six sectors will face headwinds in terms of operating cash flows or balance sheet strength. The export-oriented and commodity-linked sectors in this bucket are likely to see an impact on operating cash flows, while their balance sheets remain heathy. Export-oriented sectors such as textiles - cotton spinning and diamond polishing could see operating cash flows shrink. Commodity-linked sectors, where realisations have been impacted due to supply-sideglut - such as agrochemicals and specialty chemicals - will be affected, too. These sectors are likely to witness pressure on their credit quality

As for capex, while government spending has been rising, the private sector has not driven a meaningful pick-up

"For domestic and infrastructure-linked sectors, the conditions now seem ripe for the much-awaited private sector capex cycle to restart, given the increase in capacity utilisation, deleveraged balance sheets and steadfast demand. However, with only brownfield expansions seen in some pockets, a significant uptick in private sector capex may be a few quarters away as India Inc remains circumspect about higher interest rates and inflation leashing demand," adds Gurpreet Chhatwal.

In the financial sector, bank credit growth is likely to remain healthy, despite moderating to 13.0-13.5% this fiscal from 15.9% last fiscal on the back of relatively lower economic growth. Corporate and MSME⁴ credit growth is expected to be slower, while retail credit is expected to continue to grow at a healthy clip. That said, pace of deposit growth will bear watching.

Non-banking financial companies (NBFCs)⁵ are expected to continue seeing strong momentum across retail asset classes and log 16-18% growth in credit.

But both banks and NBFCs could see a marginal compression in net interest margin because of higher deposit and borrowing costs, respectively, even as credit costs trend lower.

Gross non-performing assets (NPAs) of banks are expected to fall to ~3% by March 2024. While retail NPAs could see a 20-25 bps uptick, it will remain below 2%.

The asset quality of NBFCs has improved over the past few fiscals and should stay benign. But delinquencies in unsecured loans need to be monitored, keeping in mind high pace of growth and target customer profile.

Says Somasekhar Vemuri, Senior Director, CRISIL Ratings, "Our credit quality outlook remains positive with upgrades expected to outnumber downgrades for the rest of this fiscal, too. But downside risks have increased with inflation obstinately high and major central banks hawkish on interest rates. While growth worldwide has been holding out, the impact of a likely global deceleration on export-oriented sectors (especially goods exports) needs watching. Closer home, erratic rainfall, high food and crude oil prices can stoke inflation and dampen demand, particularly in the rural and semi-urban markets."

¹ Refers to key infrastructure and linked sectors, such as renewables, road assets, construction & engineering, capital goods and real estate
² Excluding the financial sector
³ Earnings before interest, tax, depreciation and amortisation
⁴ Micro, small and medium enterprises
⁵ NBFCs include housing finance companies and exclude government-owned NBFCs