LAHORE - The banking sector’s profitability came under pressure in 2Q2012, as the banks witnessed the impact of the 200bps cut in the discount rate coupled with 100bps increase in minimum deposit rate. Data shows that cumulative profits of big five banks posted a decline of 5 per centQoQ in 2Q2012 while profits in 1H2012 grew by 17 per centYoY compared to the corresponding period last year, where spreads averaged at 7.62 per cent. Banking spreads in 1H2012 averaged at 7.22 per cent. Going forward, we believe the recent 150bps cut in the DR is likely to put more pressure on banks core operations. NPLs, which have been a real concern for the banking sector in the past, only managed to grow by 4 per centQoQ as of June 2012 as the figure remained inflated by a considerable increase in Public Sector Banks NPLs.As expected, banking spreads started to compress following the 200bps DR cut in 2011 and registered at 7.05 per cent in July 2012, averaging 7.19 per cent in the year so far. Bulk of the decline was witnessed in 2Q2012 where most banks witnessed a QoQ decline in profitability on account of depressed Net Interest Margin (NIMs). Out of the big 5 banks only Allied Bank Limited (19 per cent) and MCB Bank (1 per cent) were able to witness a QoQ growth in the bottom line mainly on account of rising non interest income. Other banks witnessed decline in profitability in 2Q as their core operations remained under pressure. Now that SBP has further slashed the DR by 150bps and it is expected to see the spreads shrinking further going forward. This is a cause of concern for the banks. Bilal Qamar, financial expert, expects that banking sector spreads would average at 7-7.05 per cent for 2012.As per the latest data released by the SBP, NPLs for the banking sector rose by 4 per cent QoQ to Rs653 billion in 2Q2012. Much of the increase in the bad loans portfolio was witnessed in the Public Sector Banks where NPLs grew by 15 per cent QoQ to Rs196 billion. For local private and foreign banks the same remained almost flat, witnessing a meagre growth of 1.5 per cent and 1 per cent respectively on a quarter on quarter basis. As highlighted earlier, due to banks prudent lending policies and relatively better monitoring, cash recoveries against NPLs improved by 44 per cent QoQ to Rs21 billion in 2Q2012.Going forward, experts believe banks core operations will remain under pressure due to contraction of spreads. However, some respite should come in via lower NPL accretions and healthy non interest income in the form of higher dividend income and gain on sale of securities, (KSE up 12 per cent in 3Q2012 so far). As per provisional estimates it is anticipated that earnings of big five banks to decline by 1-8 per cent QoQ in 3Q with the exception of NBP where experts expect that earnings should jump by 9 per cent QoQ as the bank had booked above Rs2 billion (compared to reversals of Rs1.5 billion in 1Q) of provisions in investments in 2Q. These are expected to be lower in the upcoming quarter.