Goldman Sachs:More hikes likely, 2H operating growth to moderate

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India: Financial Services
More hikes likely, 2H operating growth to moderate, valuations high
More rate hikes, banks have to follow or face margin pressure
Since Jan ‘2010, the RBI has hiked repo/reverse repo rates by 300 bp, driving up
short term rates by 250 bp to 400 bp and deposit rates by 50 bp to 100 bp. Our
ECS team expects 50-75 bp hikes by June 2011. We think any further increase in
deposit rate will have to be accompanied by lending rate hikes or otherwise
affect banks’ margins. We think banks will have to raise rates on housing loans
by 5-10 bp to offset higher provisions on teaser home loans/ 100 bp for loans
above Rs7.5 mn given yesterday’s RBI policy. We expect impact of both to be
limited for banks (o/s teaser loans 2-3% of total), but relatively higher for NBFCs
(more than 17% of loans). Banks have been slow in increasing lending rates
given concerns on credit growth in 2H and likely increasing competition from
overseas borrowings (largely AAA) on widening differential in interest rates.


2Q operating performance was strong as expected
As expected, operating profit growth for most banks was strong in 2Q at 30%-
60%. Key highlights: (1) While industry loan growth was 20%, most of our
covered banks (other than ICICI Bank) reported loan growth of 25%-30%. (2)
NIMs were down/stable for private banks, up for three PSU banks. (3) NPL ratio
declined qoq for private banks and Bank of Baroda (BOB), but was up
significantly for Union Bank of India (UNBK), and Punjab National Bank (PNB). (4)
PSU banks had to make provisions for pension and gratuity, while BOB did not
make any awaiting actuarial estimate of liability.

2H operating profit growth to moderate
We believe 2H operating growth will moderate to 15%-25% as: (1) loan growth
for the key players could slow to 23%-27%, (2) NIMs could remain stable at best ,
with risk of this falling unless banks raise lending rates to offset deposit costs, (3)
PSU banks are required to make pension/gratuity provisions. On the positive
front, we expect NPL provisions to moderate for PSU banks and remain stable
for the private banks.

Be selective; Buy IndusInd, PNB, BOB and ICICI Bank
Given moderation in growth in 2H and overall high valuations, we remain
selective in our stock picks. Reiterate Buy on: (1) BOB, PNB (relatively attractive
valuations, healthy earnings growth and RoEs more than 21%), and (2) IndusInd
Bank (on CL), ICICI Bank – potential earnings surprises, improving metrics (fee
income, CASA, RoA). Retain Sell on LICHF (on CL), IDFC, SBI, BOI and HDFC on
valuations and likely margin pressure on the former two.