HDFC rated ‘Add’ by Kotak, says steady growth in LRD segment crucial

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Updated: February 4, 2017 2:15:35 AM

HDFC Q3FY17 performance was supported by the wholesale segment (mostly lease discounting, LRD), which drove loan growth and cushioned NIM.

With sharp fall in interest rates in the retail home loan segment we see risk to near-term NIM trajectory of HDFC.With sharp fall in interest rates in the retail home loan segment we see risk to near-term NIM trajectory of HDFC.

HDFC Q3FY17 performance was supported by the wholesale segment (mostly lease discounting, LRD), which drove loan growth and cushioned NIM. Steady growth in the LRD (a relatively low-risk) segment will be crucial for HDFC to reduce the impact of falling interest rates in retail home loans. Retain Add with target price of R1,575.

Earnings up 12% y-o-y: HDFC reported PAT growth of 12% to R17.01 billion on the back of impressive 17% loan growth, marginal (10 bps) y-o-y compression in NIM, higher (up 31% y-o-y) fees and higher cost to income ratio (11.1% versus 10.4% in 3QFY17). Capital gains and dividend income were down 5% y-o-y. Core PBT was up 17% y-o-y to Rs 22.59 bn.

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Wholesale business picks up: HDFC reported individual loans under management were up 17% y-o-y to Rs 2.37 trn, lower than 19% growth in 2QFY17. Non-retail loans were up 18% (up 13% in Q2FY17) to R875 bn; about 65% of new loans in this segment were from lease rental discounting (LRD), a segment that is currently in a sweet spot due to market demand, fall in borrowing costs and lower risk than developer loans. This will likely remain a near-term driver for growth.

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Headwinds to NIM in the near term: HDFC reported spreads of 2.34% for 9MFY17 as compared to 2.28% in 1HFY17, indicating larger q-o-q expansion in NIMs. With sharp fall in interest rates in the retail home loan segment we see risk to near-term NIM trajectory of HDFC. The company has cut headline home loan rates by 70 bps and PLR by 15 bps since January 2017 to reduce the risks of prepayments. We find some support from (i) fall in wholesale rates and (ii) increase in share of non-retail loans.

Retain Add; TP of Rs 1,575: We are rolling over our SoTP-based target price to R1,575 (March 2019E) from R1,550 earlier. At our fair value estimate, HDFC’s core mortgage business will trade at 3X book and HDFC Bank will trade at our target price (3.3X book); we value HDFC Life at 2.9X EV and mutual fund at 4% of AUMs. At the current valuations, HDFC is trading at 2.8X and 2.2X FY2018e and FY2019e core book respectively. Notably, we model conversion of recent warrant issuance in FY2019E; this leads to a higher book value in FY2019e.

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Individual loan growth of 17% y-o-y and 3% q-o-q

Slight dip in individual loan growth: HDFC reported 17% y-o-y growth in individual loans to 2.4 trn, marginally lower than 19% y-o-y growth in Q2FY17 but broadly in line with 16-18% y-o-y growth trends seen over past eight quarters. Growth in on-book individual loans was lower at 15% y-o-y due to higher off-take by HDFC Bank.

Stronger momentum on non-individual loan: Non-individual book grew 18% y-o-y and 7% q-o-q to R875 billion. Share of non-individual loans inched up to 27%. Management highlighted that nearly two-thirds of growth came from lease rental discounting business. Notably, bank lending to the developer segment has seen subdued growth, with y-o-y growth rate of 3% y-o-y as of end-November 2016.

Expect growth momentum to sustain: We forecast 16-18% loan CAGR over FY2017-19e. While short-term outlook on real-estate sales remains uncertain, stagnant/lower prices coupled with meaningful decline in home loan rates can lead to sustained growth in volumes. Interest rate cycle and increased budgetary support could be key growth drivers in the medium to long term.

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