India’s largest public-sector lender, State Bank of India (SBI) could be on the verge of significant re-rating as India’s economic outlook improves and earnings grow. In a recent report, global brokerage and research firm Morgan Stanley said that with India’s growth estimates being revised upwards, the situation is similar to early 2000s when the economic backdrop turned favourable for banks. Although it is the private banks that did well during that cycle, state-owned banks were the initial outperformers.
Macro-economic cycle turning up
Morgan Stanley believes India is at an inflection point that marks the start of a new virtuous growth cycle. Real GDP growth estimates have been revised upwards to 12.1% in the next fiscal year from 10.1% earlier. Driving the growth for India will be an accommodative monetary policy, private capital expenditure recovery, and favourable external demand. This is akin to what banks saw between 2002-2007, where there was a deep corporate NPL cycle, followed by a sharp fall in bond yields helped recapitalize balance sheets quickly.
“The early 2000s recovery cycle brought sharp outperformance by banks, with returns >5x during that cycle,” the report said. However, the current cycle does pose more risks for most public sector banks, but SBI stands out.
SBI stands out
Unlike other state-owned banks, SBI has managed to ensure sustained market share in deposits over the last few years, which has helped the bank maintain its funding cost competitiveness. Along with that SBI has accelerated retail loan growth and improved its market share over the past three years, according to Morgan Stanley. Share of retail loans is now at 35% against 20% almost a decade ago. While growing its loans, the lender has not sacrificed on the asset quality front.
Looking ahead, SBI has worked in improving its digital footprint. “Focused on improving digital capabilities despite asset quality pressures – this has helped the bank do well in payment market share as well as accelerate digital loan sourcing,” the report said. Further, Morgan Stanley has compared SBI to the China Merchants Bank. “The SBI story reminds us of CMB in China, which has done much better than China’s SoE banks on retail and wealth management and outperformed on return ratios – though there are significant differences between SBI and CMB, we see a similar story in India with SBI and its peer SoE banks.”
Improving outlook, target price
With the improving macro-cycle, SBI’s corporate and retail loan book is expected to surprise positively over the next two years. Even the pre-provisioning operating profit (PPoP) of SBI is expected to strongly improve, unlike other public sector banks. “Unlike SoE bank peers, SBI stands out on cost of disintermediation and is actually comparable to private banks peers,” Morgan Stanely noted.
The bank, however, will need growth capital going forward. But capital raising is not expected. Strong balance sheet and improving profitability are expected to help SBI with the needed capital.
The brokerage firm has increased its target price for SBI from Rs 525 per share to Rs 600 apiece. “We now apply a 25% probability to the above scenario in valuing the core bank – thereby raising our price target to Rs 600.” Currently, the stock trades at Rs 422 per share.
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