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We stay cautious on Indian banks, despite the vicious correction this week.
The RBI pause isn't a done deal, and more importantly, significant growth
pressures are building up. We see wholesale asset quality staying weak
through FY13 (not just FY12), and recommend investors stick to quality.
Our preference stays with retail private banks.
Rates have peaked? Not a done deal. We think there will be one or
two more rate hikes (totaling 50-75bp) and easing is unlikely before mid-
2012. This is driving significant growth challenges, and we see muted
GDP for the next 6-8 quarters. This adverse macro scenario should
affect pricing power and, hence, revenue growth, with pressures on
margins, loan demand and fees.
IPPs remain a risk. The stress on IPPs persists due to poor coal
availability, weak sponsor finances and elevated SEB debt. The
important cue is forward regulatory movement (or lack thereof) –
substantial NPL recognition is unlikely before FY14, given the long
project execution timelines. We remain cautious on banks with high
power exposure, given the difficulty in solving some of the issues.
Asset quality risks rising. Weak GDP growth should impact wholesale
asset quality across sectors. We also expect some slippage in SME
portfolios due to a weak global economy and rising rates. Our study of
quarterly interest cover indicates stress, and our heat map of asset quality
(page 2) shows PSU banks and wholesale private banks more vulnerable.
Too early to play valuations. We think it’s too early to pick cheap
stocks, given earnings risk – the preference is to hide in resilience. Retail
banks would hold up better, given stable funding and better asset quality
outlook. HDFC, HDFC Bank, IndusInd and Kotak are our preferred
stocks – we remain cautious on all PSUs.
Investment summary
We remain underweight on Indian banks, with a clear preference for retail private
banks. Our key arguments are:
We believe the rate cycle has not peaked, and there is scope for further rate hikes.
The only deterrent to the RBI would be a growth shock, in which case banks
would underperform anyway.
We fear a hard landing in late CY12, spurred by high interest rates and global
weakness. FY13 could be the second successive year with <7.5% growth. (Our
view, not the formal view of the JPM economics team).
The current macro environment should put pressure on revenue growth - with
loan demand, margins and fees all being hit. This will be compounded by asset
quality issues from wholesale borrowers, as indicated by falling interest cover
(Figures 9, 11 & 12).
Investment thesis
We prefer retail private banks as: a) margins will hold up better for retail-funded
banks and b) asset quality should be more resilient - we think the retail space faces
far lesser risk given the structural improvements in recent years (functioning credit
bureau, tighter credit standards, drying up of unsecured credit).
PSU Banks – continue to avoid
Valuations have corrected and they are trading at discounts to mean (see Chart 4) but
we think that the period of asset quality pain would extend through FY13. The
current delinquencies are merely the delayed impact of the FY10 restructuring - we
expect the stress from the current cycle to hit the sector hard in FY13.
Retail private banks – best picks
We prefer the retail private banks the most (the asset quality heat map says it all). As
the scatter below (Figure 3) shows, HDFC Bank, IndusInd and Kotak fall squarely
in the safety zone with relatively better asset and liability mix. We would add
HDFC, as its wholesale funding has never been an issue.
Wholesale private banks – be very selective
We think that these banks will hold up better than the PSU banks, despite similarities
in the asset book. We would be very selective in this space:
ICICI Bank – it’s a bit of a force-fit into this category, given it has a significant
cushion with its large retail asset book. We remain very positive on the stock, but
believe that investors may have to look through some short term (~1 quarter)
pain.
Axis Bank - It’s probably the least attractive of the private sector banks, given
margin pressures combined with the perception of weak asset quality.
IDFC – IDFC needs a confluence of many positives for its business model to get
kick started again – falling interest rates, a robust equity market, a more amenable
regulatory environment for infrastructure projects and, probably, a thriving
market for takeout financing. This confluence is unlikely in the next year or so,
and we would avoid the stock despite the inexpensive valuations.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
We stay cautious on Indian banks, despite the vicious correction this week.
The RBI pause isn't a done deal, and more importantly, significant growth
pressures are building up. We see wholesale asset quality staying weak
through FY13 (not just FY12), and recommend investors stick to quality.
Our preference stays with retail private banks.
Rates have peaked? Not a done deal. We think there will be one or
two more rate hikes (totaling 50-75bp) and easing is unlikely before mid-
2012. This is driving significant growth challenges, and we see muted
GDP for the next 6-8 quarters. This adverse macro scenario should
affect pricing power and, hence, revenue growth, with pressures on
margins, loan demand and fees.
IPPs remain a risk. The stress on IPPs persists due to poor coal
availability, weak sponsor finances and elevated SEB debt. The
important cue is forward regulatory movement (or lack thereof) –
substantial NPL recognition is unlikely before FY14, given the long
project execution timelines. We remain cautious on banks with high
power exposure, given the difficulty in solving some of the issues.
Asset quality risks rising. Weak GDP growth should impact wholesale
asset quality across sectors. We also expect some slippage in SME
portfolios due to a weak global economy and rising rates. Our study of
quarterly interest cover indicates stress, and our heat map of asset quality
(page 2) shows PSU banks and wholesale private banks more vulnerable.
Too early to play valuations. We think it’s too early to pick cheap
stocks, given earnings risk – the preference is to hide in resilience. Retail
banks would hold up better, given stable funding and better asset quality
outlook. HDFC, HDFC Bank, IndusInd and Kotak are our preferred
stocks – we remain cautious on all PSUs.
Investment summary
We remain underweight on Indian banks, with a clear preference for retail private
banks. Our key arguments are:
We believe the rate cycle has not peaked, and there is scope for further rate hikes.
The only deterrent to the RBI would be a growth shock, in which case banks
would underperform anyway.
We fear a hard landing in late CY12, spurred by high interest rates and global
weakness. FY13 could be the second successive year with <7.5% growth. (Our
view, not the formal view of the JPM economics team).
The current macro environment should put pressure on revenue growth - with
loan demand, margins and fees all being hit. This will be compounded by asset
quality issues from wholesale borrowers, as indicated by falling interest cover
(Figures 9, 11 & 12).
Investment thesis
We prefer retail private banks as: a) margins will hold up better for retail-funded
banks and b) asset quality should be more resilient - we think the retail space faces
far lesser risk given the structural improvements in recent years (functioning credit
bureau, tighter credit standards, drying up of unsecured credit).
PSU Banks – continue to avoid
Valuations have corrected and they are trading at discounts to mean (see Chart 4) but
we think that the period of asset quality pain would extend through FY13. The
current delinquencies are merely the delayed impact of the FY10 restructuring - we
expect the stress from the current cycle to hit the sector hard in FY13.
Retail private banks – best picks
We prefer the retail private banks the most (the asset quality heat map says it all). As
the scatter below (Figure 3) shows, HDFC Bank, IndusInd and Kotak fall squarely
in the safety zone with relatively better asset and liability mix. We would add
HDFC, as its wholesale funding has never been an issue.
Wholesale private banks – be very selective
We think that these banks will hold up better than the PSU banks, despite similarities
in the asset book. We would be very selective in this space:
ICICI Bank – it’s a bit of a force-fit into this category, given it has a significant
cushion with its large retail asset book. We remain very positive on the stock, but
believe that investors may have to look through some short term (~1 quarter)
pain.
Axis Bank - It’s probably the least attractive of the private sector banks, given
margin pressures combined with the perception of weak asset quality.
IDFC – IDFC needs a confluence of many positives for its business model to get
kick started again – falling interest rates, a robust equity market, a more amenable
regulatory environment for infrastructure projects and, probably, a thriving
market for takeout financing. This confluence is unlikely in the next year or so,
and we would avoid the stock despite the inexpensive valuations.
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