Private banks’ FY27 edge over PSU banks: key calls

The trade-off investors are being asked to make

State-owned lenders have posted record profit milestones, but market preference is shifting toward leading private sector banks as macro conditions get tougher. Analysts flag global uncertainty and intensifying deposit pressure as the key stress points for FY27 positioning. The message from multiple brokerages is consistent: buying PSU banks only for low valuations can backfire if growth and earnings quality do not hold up. In contrast, large private banks are being pitched as the cleaner risk-reward trade at current multiples.

Kotak Securities’ Head of Equity Research Shrikant Chouhan framed it as a tactical preference, saying operating momentum is likely to continue with no significant near-term fundamental headwinds visible, but that leading private banks offer a more attractive risk-reward at current valuations. Over FY26 to FY28, analysts cited in the note expect private banks to compound earnings at roughly 21% CAGR versus about 8% for PSU banks, a gap of more than 2.5 times.

A sharp performance gap is already visible in indices

The last 12 months have rewarded PSU bank investors far more than private bank investors. The Nifty PSU Bank index is up 32% over the past year, while the Nifty Private Bank index is down 2%. The PSU rally has been attributed to a meaningful re-rating as profitability, asset quality, and growth improved together.

But the same re-rating is now being questioned on sustainability as deposit pressures rise. Analysts argue that the easy leg of valuation-led gains may already be behind PSU names, especially if a benign earnings environment does not persist.

Sustainability of growth: loans improved, deposits lagged

A key plank of the private-bank preference is the durability of growth, particularly the ability to fund it. PSU banks have reversed a multi-year trend of losing loan market share since September 2024. From September 2024 to December 2025, PSU banks clocked a 14.4% CAGR in advances versus 10.3% for private banks.

However, analysts noted that this improvement in advances has not been matched by deposits. In a market where funding competition is rising, the deposit side can constrain growth or compress margins, making the quality and resilience of liability franchises more important.

Earnings quality: core profitability versus non-core support

Nomura’s decomposition of return ratios cited in the text draws a sharp distinction between how PSU banks and private banks generate profitability. It argues that PSU banks’ profitability relies more heavily on treasury gains and recoveries from written-off loans, while private banks’ returns on assets (ROAs) are predominantly driven by core lending and fee income.

Over FY24 to 9MFY26, non-core income contributed roughly 20% to 40% of pre-provision operating profit (PPOP) for PSU banks, compared with about 5% to 13% for large private banks such as HDFC Bank, Axis Bank, and Kotak Mahindra Bank. This non-core component also added 22 to 60 basis points to PSU ROAs over the same period, underlining that reported profitability can be more sensitive to variables outside core banking operations.

Leverage and downside: why the cycle matters

The note also flags leverage as a risk amplifier for state-owned lenders, stating that leverage can magnify downside risk. While the text does not quantify leverage, the broader point is that when credit conditions tighten or non-core income fades, downside can be sharper for banks where profitability is less anchored in recurring core income.

This matters more as the market prepares for a tougher macro environment, where earnings consistency tends to be rewarded over one-off or market-dependent gains.

Valuations: where support is shifting

Valuation is central to the debate. Nomura argues that valuation support now sits with private banks. PSU banks are described as trading around +1 standard deviation above their 10-year average at about 1.3 times forward book, which the note characterises as “already pricing in a sustained benign earnings environment.”

By contrast, private bank names are said to be near historic trough multiples despite what Nomura views as a better growth and profitability outlook over FY26 to FY28. Nomura summed up its stance by saying a combination of attractive valuations and durable earnings quality makes private banks a more compelling investment proposition at this point in the cycle.

Top picks across brokerages: private-heavy lists, SBI the exception

Stock preferences in the text skew clearly toward larger private banks. One set of “top picks for the cycle” lists ICICI Bank, HDFC Bank, State Bank of India, and AU Small Finance Bank, with SBI the only PSU bank included. Another preference within the PSU space is stated even more narrowly: SBI, and SBI alone.

Nomura names Kotak Mahindra Bank, Axis Bank, and ICICI Bank as its top ‘Buy’ picks among private banks, followed by SBI and Bank of Baroda within PSUs. The text also mentions the view that Axis, ICICI, and HDFC Bank are likely to report stronger growth over FY27 and beyond, strengthening the private-bank case.

What HSBC says: constructive on PSU banks despite the rotation

HSBC Global Investment Research takes a more constructive stance on PSBs. Its report expects PSBs to outperform broader system credit growth over the medium term, projecting loan growth 100 to 300 basis points higher than system credit growth. HSBC links this to stronger balance sheets, improved underwriting standards, and sustained corporate and retail demand.

HSBC also highlights material improvement in asset quality, with gross NPL ratios for PSBs declining to multi-year lows, supported by recoveries, write-offs, and tighter credit underwriting. On profitability drivers, HSBC expects net interest margins to moderate from peak levels but remain structurally stronger than historical averages and “well above pre-Covid levels.” It also points to operating leverage, expecting cost-to-income ratios to trend lower as revenue growth outpaces operating expense growth, aided by digitisation and branch productivity.

Funding cost edge: a 20-30 bps advantage for private lenders

InCred Research adds another angle: large private banks are described as entering a structural upswing with inflecting revenue growth, better operating leverage, and improving profitability. It also highlights a funding-cost edge, stating private lenders have a 20 to 30 basis points lower incremental funding cost than PSUs due to stronger liability franchises and tech-enabled distribution. Conversely, PSU banks are described as facing margin pressure from shallow MCLR cuts and rising investment yields.

Key numbers at a glance

Systematix targets and ratings: private banks dominate, SBI included

Systematix Institutional Equities also prefers private sector banks over public sector banks, citing superior valuation comfort and better risk-adjusted returns over the medium to longer term. Its pecking order of preference is IndusInd Bank, HDFC Bank, SBI, Kotak Mahindra Bank, Federal Bank, ICICI Bank, and Axis Bank.

Market impact: what changes for investors tracking FY27

The data points set up a clear tension in positioning. PSU banks have delivered strong recent returns and faster advances growth over the Sep 2024 to Dec 2025 window, but concerns focus on deposit constraints and the composition of profits. Private banks, despite weaker recent index performance, are being framed as offering valuation comfort, better earnings durability, and a lower incremental funding cost.

Separately, the text also captures how global banks see the landscape. HSBC India CEO Hitendra Dave said in an interview that he wants HSBC to be the fifth largest private sector bank in India, with growth drivers including wealth and consumer businesses and opportunities in infrastructure financing and newer themes such as data centres and nuclear energy.

Conclusion: the FY27 debate is about quality versus re-rating

The current set of calls suggests a rotation from valuation-driven PSU optimism toward quality-led private bank positioning. Analysts highlight stronger projected earnings compounding for private banks, a greater share of core income in profitability, and more supportive relative valuations. At the same time, HSBC’s view shows the PSU growth story is not dismissed, with expectations of loan growth outperforming the system by 100 to 300 basis points and improved asset quality.

The next leg of the trade will likely hinge on how deposit pressure evolves and whether earnings remain driven by core banking metrics rather than non-core support through FY27 and beyond.