Underweight on IDFC as growth slows

Written by Morgan Stanley | Updated: Jul 25 2013, 21:46pm hrs
IDFC has managed the slowdown well, until now, from the perspectives of growth and profitability. But Indian macro is taking another legdown, in our view, with growth slowing and rates higher. In this backdrop, IDFC stock will come under pressure too.

The lack of a pickup in Indian economic growth implies that the loan pipeline is drying up. This softness is exacerbated by currency moves and RBIs efforts to control depreciation. We are unlikely to see any pickup in capex by private corporates, at least until the 2014 elections.

Since the first move by the RBI to tighten on July 15, short rates (three-month CP) are up 125bp. This is likely to start affecting incremental funding costs. At the same time, lending rates could stay sticky making it tough to increase lending rates by ~125 bps for an already stretched corporate. Slow loan growth and some NIM compression will likely cause NII to grow in single digits in F2014-15.

IDFC has managed asset quality notably well over the last 2-3 years. However, with the economy slowing and rates rising, we expect corporate profitability to further deteriorate. NPL concerns are likely to rise even for better underwriters. Weaker revenue and a minor increase in credit costs lower our earnings materially. If IDFC obtains a bank licence, it will provide asset diversification and lower wholesale dependence. The stock is not cheap, trading at 10.9 F2014E P/E and 1.3x book with 12.5% ROE.