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BANKING AND FINANCIAL SERVICES
Growth strong, margins to be under pressure
: Q3FY11 Result Preview: Edelweiss
Key highlights of the sector during the quarter
• Net reverse repo (at negative INR 600bn) for the quarter remained outside
the RBI’s comfort zone. In the mid quarter policy review, the RBI announced
liquidity enhancing measures- OMO of INR 480bn over the next month and
SLR cut from 25% to 24%. Consequently, banking system experienced
marginal relief from extreme conditions reflecting in net reverse repo coming
to negative INR 1.1tn by end of quarter, against a high of INR 1.7tn.
• Credit growth came in strong during the quarter (~6.4% Q-o-Q), while
deposit growth continued to lag (~2% Q-o-Q). CD ratio touched 76% (up
~3% pts).
• SBI initiated a steep 100bps increase in the deposit rates in the relevant 1-2
year bucket putting it notch above the peers. The move was followed by the
competitors; however, a hike in deposit rate was coupled with corresponding
increase in the lending rates, reflecting the pricing power wielded by the
banking system. On 3rd Jan 2011, SBI raised deposit rates once again, this
time coupled with hike in lending rate- reflecting strong pricing power
• Gsec yields have inched up to a high of 8.2%; however towards the end of
the quarter it has cooled off to 7.9% (up <1bp Q-o-Q). We do not expect any
significant MTM depreciation hit on the investments.
• With sharp spike in wholesale rates NBFCs (including HFCs) will witness some
pressure on funding cost. However, due to rise in lending rates and pricing
power in some segments like power, compression in margins in this quarter
will be limited.
Result expectations for the sector and stocks under coverage
For banks under coverage we expect NII growth of 27% Y-o-Y/2% Q-o-Q and
earnings growth of 18% Y-o-Y/9% Q-o-Q. Overall earnings for the quarter are
likely to be subdued sequentially on the back of lower treasury income and higher
provisioning (by PSBs). Slippages may continue to remain high, but will be lower
than Q211. PSBs will be disclosing second pension option liability during the
quarter; hence the opex ratios can go up
Outlook over the next 12 months
• Considering the slow deposit mobilization and tight liquidity, we expect
upward pressure on retail deposit rates. We believe: (a) cost pressure will be
more prevalent and the impact will be disproportionate across banks,
impacting relatively weaker franchisee more, (b) with strong pricing power
demonstrated by the banking system as credit growth picks up amidst tight
liquidity, we expect lending spreads to remain stable, (c) hit on investment
spreads to adversely impact NIMs, more so, with the LDR touching high
(75%), leaving limited scope for benefit flowing from asset re-allocation.
• NPL formation in retail is coming off, reducing credit costs, especially for
private banks. Slippages for PSBs to stabilise only over next few quarters.
However recoveries/upgrade would ensure that credit cost increase is limited.
• We expect margins for NBFCs to compress going forward if wholesale costs
sustain at high levels – however impact would be relatively lower for NBFCs
Recommendations
Top picks: HDFC Bank, ICICI, Yes Bank, Federal Bank, Bank of Baroda, Union
Bank.
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