After having battled pandemic and asset quality risks in the previous year, India’s banking sector looks poised for a better year ahead with further upside and recovery in earnings.
After having battled pandemic and asset quality risks in the previous year, India’s banking sector looks poised for a better year ahead with further upside and recovery in earnings. Global brokerage and research firms Bank of America Securities and Macquarie paint a positive picture of what lies ahead for the banks. Although near term volatility has not been ruled out with the beginning of the NPA recognition cycle, the view for the next 12 months is largely optimistic.
Long-term outlook positive
Analysts at BofA Securities said that they have turned positive owing to five reasons. These include i) improving asset quality; ii) signs of revival as disbursals improve; iii) improved capital and liquidity; iv) regulatory support; v) valuations. “(Valuations) remain attractive in the historical context, especially if better capital levels and lower COE are factored in,” the report said. In the first half of 2021, the brokerage does expect some headwinds emerging out of the NPA recognition cycle but sees the second half of the year bringing tailwinds with growth improving.
Macquarie has significantly raised earnings estimates — by 16-35% for private banks for the financial year 2022 and 2023; and by 80-150% for PSU banks. Although the Nifty Bank index has surged 56% since the end of September, analysts at Macquaries find further upside potential. “Despite the sharp outperformance by banking stocks in the past three months, the Bank NIFTY has underperformed the broader market in the last 12 months,” they said.
Both BofA and Macquarie see valuations of the banking sector be comfortable. “While we have seen a sharp re-rating, banks are generally still ~15% below historical averages and ~40% below historical highs, if we were to look at valuations on FY23E basis,” analysts at Macquarie said. BofA too said that valuations remain attractive for the majority of banks in the historical context. “With asset quality risks not playing out vs concerns, we see scope for valuation multiples to re-rate at least close to historical averages (base case) and even further if growth surprises positively,” they added.
Top bank stock picks
Looking ahead, BofA has a buy call on HDFC Bank and ICICI Bank while it upgraded Axis Bank and IndusInd Bank as well to a ‘buy’ rating. Asset quality and liquidity issues for both Axis Bank and IndusInd Bank are seen to be receding by the brokerage firm. Along with these two, India’s largest state-owned lender State bank of India has also been upgraded to ‘neutral’ from ‘underperform’ rating.
Macquarie, on the other hand, believes large private banks are well-positioned to grow their loan books and are relatively better placed in terms of balance sheet strength, hence it picked HDFC Bank and ICICI Bank as its top picks. State Bank of India has been termed as their ‘top value play’.