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Banks
Action
We are now Neutral on banks and recommend being selective going forward, with
a bias towards large private banks, on the back of stronger loan growth with stable
margins and declining credit costs. Continued asset quality issues, uncertainty over
pension liability and margin pressures for PSU banks could trigger earnings
downgrades for most of the PSU banks.
Catalysts
We believe a pick-up in broad-based credit growth, decline in credit costs and
stable margins will be key drivers for private banks.
Anchor themes
With moderating loan growth and rising deposit rates leading to margin pressures,
we recommend banks with a strong deposit franchise and stable margins. ICICI
Bank and SBI are our top picks.
Time to be selective
Inflation can be a spoilsport
The Bankex has outperformed the Sensex by 25% YTD. While the macro picture
remains favourable, so far, inflationary concerns would likely lead to a tighter
policy environment, exerting pressure on margins. We might not see the same
outperformance by banks in CY11F (vs. CY10), with valuations being stretched
and credit growth to moderate at 20% levels due to base effect coming into play
and concerns on microfinance, telecom and real estate scams resulting in banks
being more cautious and selective on lending. In addition, margins are at a peak
and are likely to trend down as funding costs increase with tighter policy and
peaking of the C-D ratio. Hence, we recommend banks with strong deposit
franchises and stable margins.
Slack in deposit growth not a big concern
Even though deposit growth remains tepid and liquidity remains tight, credit
growth is likely to be at around 20% in CY11F. The increase in deposit rates,
along with inflation cooling off marginally (real interest rates turning positive),
should help deposit growth to pick up to 18-19% levels. Also, moderation of
credit growth and an increase in government expenditure towards the end of
FY11 should help ease out the liquidity crunch.
Margins to moderate before stabilising; credit costs to decline
CY2010 recorded a robust expansion in NIMs for the sector, but with an increase
in deposit rates, tighter liquidity and no further benefit arising out of C-D
expansion, margin pressures (which is better managed by private banks) are
likely, we believe. Deposit rates have increased by over 150-350bps, compared
with a 50-100bps increase in lending rates over the past few months, which
points to margin compression in the coming quarters, especially for PSUs due to
larger ALM mismatches. Private banks, on the other hand, are relatively better
off and would also see a sharp decline in credit costs with expected
improvements in asset quality which would support bottom-lines for private banks.
Our top picks
Our top picks remain ICICI bank and SBI.
ICICI Bank (BUY; PT INR1,355)
The bank’s fundamentals remain sound and, we believe, ICICI Bank’s turnaround is
gathering momentum. We expect its loan growth to pick up with a slowdown in retail
repayments and increase in disbursements of project loans going ahead, and a decline
in loan loss provisions to 1.4% of average loans in FY11F and 1.1% in FY12F from
2.2% in FY10 owing to improvements in asset quality. ICICI bank’s RoA and RoE
expansion, along with investors shifting from PSU banks to private banks with better
management, should help the bank to outperform its peers, we believe. We value the
core ICICI bank at 2.6x FY12F P/BV. Risks: Downside risks include slower-thanexpected
economic growth, a rapid increase in bond yields owing to rising fiscal deficit
and increasing global stress could hurt ICICI’s international book.
SBI (BUY; PT INR3,765)
SBI’s deposit franchise remains amongst the best in the industry, with the proportion of
CASA deposits having improved to 47% in FY10 from 41% in FY06. The bank has
shown strong core performance over the past few quarters and, is expected to
continue to do so at the core level. NPL accretion which is likely to stay high in FY11F,
is showing signs of peaking out and will slow down with a reduction in slippages from
restructured loans, thus helping reduce SBI’s credit costs going forward. In addition, a
lack of pension liability overhang, strong fee income and stable margins give SBI an
edge over other PSU banks. We value the parent SBI bank at 2x FY12F P/BV. Risks:
Faster-than-expected increases in rates or slower-than-expected loan growth are key
risks to our rating and price target for the bank.
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