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Key themes for 2011
1. Margins have peaked: Most banks, especially PSU
banks, have shown significant margin improvement over
the past 3-4 quarters, and we believe margins have
peaked for the sector.
System liquidity has been tight and there is upward
pressure on the cost of deposits; we believe that will have
an impact on margins for the sector. Wholesale-funded
institutions would be more vulnerable to margin
pressures.
2. Asset quality improving: With the economic
recovery, asset quality is broadly improving for the
sector, with the significant improvement in retail asset
quality reflected in lower delinquencies across most retail
asset categories. Credit costs for private banks have come
off sharply, and we expect further improvement over the
next 2-3 quarters. In our coverage universe we expect
further asset quality and credit cost improvement for
ICICI, HDFCB and Kotak.
3. External risks: Our bullish stance on Financials is
based on a general economic recovery which is also
positive for oil prices. High oil prices would add to fiscal
pressure and impact inflation which would be negative
for banks.
RBI has been tightening with rate action, and there is a
possibility of non-rate RBI action. RBI recently did
tighten norms on high-ticket mortgage loans and teaser
loans and further non-rate action by RBI would be
negative for the sector.
How the business is expected to evolve through the
year
Loan Growth: We expect credit growth to accelerate in
2H11 and remain strong in FY12. Secured retail credit
(mortgages, car loans), infrastructure loans and working
capital loans are expected to drive strong credit growth
going forward.
NIMs – We believe margins peaked for the sector in 2Q
FY11, and we expect them to contract from current levels
given rising cost of deposits and wholesale funds.
Fees – We expect fee income growth to be in line with
balance sheet growth. Third-party fee income should
remain muted.
Costs – Employee wage inflation and branch additions
would drive costs for private banks. Pension liabilities
could be a negative surprise for PSU banks.
Asset quality – Expect asset quality recovery to continue
especially on retail assets. Credit cots would surprise
positively for private banks.
Capitalization – Most private banks have adequate
capital. SOE banks under-capitalized. Likely events: SBI
rights issue followed by capital-raising by other PSU
banks.
Sector view
Near-term performance would be impacted by increasing
oil prices, high sticky inflation, and also the tight
liquidity situation. Margins would be impacted in the
1H11 for the sector as we expect liquidity tightness to
persist over 1Q11. Over the medium term –improving
asset quality and acceleration in loan growth would drive
stock performance post Mar-11.
Stock recommendations
ICICI Bank/HDFC Bank – Top picks
ICICI Bank is our top pick in the India Financials space.
After consolidation, ICICI’s domestic lending business is
poised to grow in line with the industry. Also retail
delinquencies have come off sharply and management
expects a better trend going forward. In a rising-interestrate
environment we also like HDFC Bank as margins
should be relatively stable.
SBI – Top Avoid
(1) SBI ROAs at 1.0- 1.1% over FY10-12E do not justify
the premium valuations, in our view. We expect a likely
capital issue to prevent improvements in ROE over the
next two years. (2) System liquidity has been tight and
margins would be impacted in 1H CY11. (3) Slippages
have been high in 1H FY11 and credit costs should
remain elevated given the need for accelerated
provisioning.
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