The asset quality stretch

Mar 10 2014, 03:44 IST
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SummaryMid-cycle fundamentals will keep valuations largely around mean

Banks

Rating: Neutral

The summary: Still ‘very’ mid-cycle— India’s banks remain fundamentally ‘verrry’ mid-cycle. Most recent trends however suggest some cyclical tweaks and swings: (i) BS---asset-quality cycle is getting a little stretched; it’s now three quarters to the bottom; (ii) P&L - Revenues looking up!, Costs making a difference and (iii) Elections - are a play, opportunity/risk ahead. Stay neutral, it’s going to be up & down, and Axis/ICBK are our top picks.

The BS: Weaker — Asset quality’s getting a little stretched: deterioration stays high (6% annualised slippage for PSUs), restructurings rise (scale, pipeline, average size), and management commentaries remain cautious. It’s probably another three quarters to the bottom, there’s no V ahead–it’s going to be a stretched U, and loan growth would remain sub-15%. You have to be patient with U’s.

* The P&L: Better — It’s surprisingly looking up: PPP (ex-trading) +7% q-o-q with higher margins (a tad), rising fees and a mixed cost show. While offset by BS costs (PAT -5%, credit costs +18% y-o-y), banks are showing some pricing power and discipline. It’s however split on costs: Private banks cyclically offsetting revenue slowdown through costs; PSUs counter-cyclically (or out of control) offsetting revenue ups with high costs. The P&L slightly offsets BS: but will it have leverage on the turn?

* The Spice: Elections—The banks are a big play: historically (high beta), economically (cycle is low – expectation swing could be large), and individual stock/business leverage wise. We would expect PSUs (PNB/SBI) followed by Axis/ICBK as most sensitive to a risk on, and HDFC/HDFC Bank the best hedges against a risk off. The election build-up should swing bank stocks – beyond their businesses.

* The stocks — We stay neutral on the sector–believe the ‘Mid-cycle’ fundamentals will keep valuations largely around means: environment/market swings would offer opportunities for those looking for trading ideas. Prefer privates to public, banks to NBFCs, and Axis/ICICIC Bank are our top picks.

—Citi

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