Banking Sector

Valuations look stretched in banking space; 5 stocks which could give up to 30% return

The Bank Nifty has given a 24 percent return on a year-to-date (YTD) from January 2017 onwards, significantly outperforming benchmark Nifty’s 14 percent return in the same period.

This has been largely led by expectations of 1) improved asset quality and anticipation of systemic resolution on large and lumpy NPAs, 2) developments on the macroeconomic front, e.g. passing of GST; and 3) revival in loan growth.

Bank Nifty’s outperformance has led to both PSU and private sector banks being priced higher than the past 7-year mean valuation, ICICI Securities said in a report.

Now, with asset quality woes taking a back seat as incremental loan delinquencies continue to trend lower in Q4FY17, there has been a positive surprise on loan growth in both retail and non-retail segments, said the note.

Loan growth had remained muted at 12 percent CAGR for FY13-FY17, with the lowest (5.1% YoY) being in FY17. This was due to: 1) slowdown and uncertainty in the macroeconomic scenario accentuated with high rates, 2) higher asset delinquencies, and 3) credit substitution.

The domestic brokerage firm said that now with lending rates continuing to decline, retail loan growth is estimated to be higher than systemic loan growth, especially in the mortgage segment.

“With current inflationary expectations coupled with improvement in the macroeconomy, we estimate corporate loans to grow marginally in FY19, taking the systemic loan growth to 14 percent YoY,” it said.

ICICI Securities recommend either buy or ADD rating on these top five stocks which could give up to 30 percent upside in next 12 months:

Yes Bank: BUY | Target Rs 2,140 | Upside 32%

Yes Bank’s business growth has been among the best in industry, led by an increasing share of its non-corporate loan book and higher CASA. This boosted margins and, with core spread continuing to look better, Yes Bank is one of the few whose margins are due to expand in FY18E and stabilise in FY19E.

However, on account of the recent RBI diktat, Yes Bank saw a sharp decline in asset quality, but there is a fair probability of near-term recovery on this score. “We estimate the bank’s asset quality to improve and continue to be best-in-class in FY18 and FY19,” said the note.

Yes Bank is capitalised well enough to maintain significantly higher than systemic business momentum, well diversified across wholesale and retail segments, delivering one of the best RoEs in FY19E. “We maintain Yes Bank as one of our top picks with a target price of Rs2,140, discounting FY19E P/Adj. BV by 3.1x and earnings by 15x,” said the ICICI Sec report.

HDFC Bank: BUY | Target Rs 1,744 | Upside 12%

HDFC Bank is one of the best-positioned banks to maintain strong business growth, well distributed across both retail and corporate segments. It is well placed to continue improving traction in core earnings with better overall spreads leading to stronger margins.

Conscious efforts on improving digital footprint and reducing employee headcount would lead to continuous improvement in operating performance.

HDFC Bank is strongly placed to capitalise on the brighter economic environment by growing across segments while maintaining leader margins and strong RoE of over 19 percent for FY19E. ICICI Securities maintain buy with a target price of Rs1,744.

IndusInd Bank: ADD | Target 1,509 | Upside 6.2%

IndusInd Bank (IIB), at the end of its planning cycle-3 (FY17), has achieved and exceeded almost all the targets set, which included: posting strong business growth, improving NIM and fee income traction. Though FY14-FY17 was one of the most challenging years, IIB has been able to maintain its asset quality while posting growth across all its business segments.

But, with the recent run-up in stock price and relatively rich valuations, we maintain our ADD rating with a target price of Rs1,509, which discounts FY19E P/Adj. BV by 3.3x

and earnings by 20x.

The management clarified that MFI is the preferred industry for M&As but clearly indicated that no such negotiations are at advanced stages.

Karur Vysya Bank: ADD | Target Rs 120 | Upside 15%

Karur Vysya Bank (KVB) is well positioned for a marked improvement in: 1) business momentum, aided by a change in business mix, 2) asset quality, as problem assets reduce on a brighter macroeconomic outlook, and 3) stability of margins, albeit lower than at present.

With improving macroeconomic conditions, KVB is poised to increase its business momentum led by its wide product presence across the retail and SME categories.

With RoEs estimated to improve to 15 percent in FY19 from 10 percent in FY17E, ICICI Securities maintain ADD rating on the stock with a target price of Rs139 discounting FY19E P/Adj. BV by 1.4x.

Kotak Mahindra Bank: ADD | Target Rs 978 | Upside 8%

Kotak Mahindra Bank (KMB) saw relatively muted business growth in FY17 vis-a-vis its private sector counterparts as some of the management bandwidth was utilised to completely integrate with ING Bank.

However, the other parameters saw marked improvements, such as: 1) asset quality remained stable; 2) NIM expanded, indicating deepening product profile; and 3) operating performance too improved.

KMB is among the best-placed banks to capture growth momentum across business verticals. It has a strong presence across all financial product verticals and should benefit from wider reach and strong cross-marketing skills, leading to RoE expansion.