Banking Monthly. Underlying macro remains weak. Manish Agarwalla Sachit Motwani CFA, FRM

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1 Banking Monthly Underlying macro remains weak Manish Agarwalla Sachit Motwani CFA, FRM 18 October 213

2 Summary After a sharp downward revision of the GDP growth rate for FY14E to 4% from our earlier 5.5%, the macroeconomic outlook for FY14 continues to remain bleak driven by extension of slowdown in investment cycle and slowdown in consumption. The Indian banking sector is already reeling under pressure due to rising NPAs but the Q2FY14 results will compound the situation with added pressures on NIM and treasury income. Post the recent run up of banking stocks a correction after the results is likely as pressures will be particularly severe for the PSU banks and wholesale private banks. The ultimate outcome of the measures announced on 15th July 213 was a non-parallel upward shift in the yield curve (more inverted) with short term rates rising to 12%+ and G-secs increasing to ~9%. To give some breather, RBI allowed banks to transfer SLR securities to HTM from AFS/HFT as a one-time measure (subject to limit of 24.5% in HTM) and amortize the MTM losses over the remaining 3 quarters of FY14. We expect banks with higher proportion of wholesale deposits, excess SLR and relatively large AFS/HFT book to be negatively impacted due to a) NIM pressure due to increase in cost of funds and negative carry on funds borrowed by pledging surplus SLR and b) MTM losses on the treasury book. The banks to be the most impacted are PNB, BOB, Canara Bank, OBC and Corporation Bank. This will be in addition to the continued asset quality stress (higher slippages and restructuring). Subdued top line (on the back of NIM pressure) and fee income growth coupled with treasury losses and higher credit costs to exert pressure on earnings. We forecast decline in earnings for most PSU banks (-25% YoY) while we see moderation in earnings growth for private banks (+2% YoY). 2

3 BFSI 3

4 Banking: Business aggregates 3 25 Sector wise credit growth (%) Non-Food Credit Agriculture Industry Retail Services SCB Business aggregates Deposit Gwth (%) Credit Gwth (%) CD ratio (rhs) Feb-11 Apr-11 Jun-11 Aug-11 Oct-11 Dec-11 Feb-12 Apr-12 Jun-12 Aug-12 Oct-12 Dec-12 Feb-13 Apr-13 Jun-13 Aug-13 Sep-11 Nov-11 Jan-12 Mar-12 May-12 Jul-12 Sep-12 Nov-12 Jan-13 Mar-13 May-13 Jul-13 Sep-13 Growth Rate (%) Basic Metal & Metal produc 21. CRE 17.4 All engineering 15. NBFC 18. Housing 19. Iron & Steel 2.9 Power 26.2 Credit growth has improved since July 15 th as corporates came back to banks for short term working capital (since bank base rates were attractive than issuing CD/CPs). Total bank credit growth as on Sep 2 th was strong at 18.9% YoY. Deposits growth also picked up on the back of term deposits starting gaining prominence as a savings instrument and a weak outlook on gold. C/D ratio was stable at 76.3%. Power outstanding as on Aug 13 saw a sharp spike, as banks have started fresh lending to SEBs who are implementing the FRP package. Source: Bloomberg, PhillipCapital India Research 4

5 Banking: Deposit and base rate of top banks Current less than 1yr 1-2yr More than 2yr Axis Bank BOB BOI HDFC BANK ICICI Bank PNB SBI UBI Most banks have increased term deposit rates especially in the shorter tenors due to tight liquidity conditions after measures taken by RBI on 15 th July. Term deposit may gain preference amongst savers due to volatile capital market and weak outlook on gold. Base Rate July 213 Sep 213 Axis Bank BOB BOI HDFC BANK ICICI Bank PNB SBI UBI Most banks have increased base rates by 2-25 bps after measures announced by RBI as the cost of funds increased by 25-5 bps. Our interaction with various banks suggests that there is a possibility of another base rate hike as the cost of funds remain elevated. Source: Company, PhillipCapital India Research 5

6 Banking: Capex data Source: CMIE, PhillipCapital India Research Project Stalled Stalled, bn % of implementation (rhs) 9, 8, 7, 6, 5, 4, 3, 2, 1, - 12% 1% 8% 6% 4% 2% % Supply side constrain and low business confidence continues to impact new project. Due to lower base, new projects are down only 2% YoY. Outstanding project under implementation has remained stagnant at Rs 84 trn. Proportion of stalled projects remain at 1% of project under implementation compared to average proportion of 5% largely on account of land/environment clearance & fuel availability. 6 Mar-7 Jun-7 Sep-7 Dec-7 Mar-8 Jun-8 Sep-8 Dec-8 Mar-9 Jun-9 Sep-9 Dec-9 Mar-1 Jun-1 Sep-1 Dec-1 Mar-11 Jun-11 Sep-11 Dec-11 Mar-12 Jun-12 Sep-12 Dec-12 Mar-13 Jun-13 Sep-13 Under Implementation Under implementation Rs bn YoY (%), RHS 9, 8, 7, 6, 5, 4, 3, 2, 1, 6% 5% 4% 3% 2% 1% % Mar-7 Jun-7 Sep-7 Dec-7 Mar-8 Jun-8 Sep-8 Dec-8 Mar-9 Jun-9 Sep-9 Dec-9 Mar-1 Jun-1 Sep-1 Dec-1 Mar-11 Jun-11 Sep-11 Dec-11 Mar-12 Jun-12 Sep-12 Dec-12 Mar-13 Jun-13 Sep-13 New Projects New Projects, Rs bn YoY (%), RHS 9, 8, 7, 6, 5, 4, 3, 2, 1, 15% 1% 5% % -5% -1% Mar-7 Jun-7 Sep-7 Dec-7 Mar-8 Jun-8 Sep-8 Dec-8 Mar-9 Jun-9 Sep-9 Dec-9 Mar-1 Jun-1 Sep-1 Dec-1 Mar-11 Jun-11 Sep-11 Dec-11 Mar-12 Jun-12 Sep-12 Dec-12 Mar-13 Jun-13 Sep-13

Banking: Asset quality aggregates The outstanding restructured portfolio for PSBs have increased to 5.9% of loan book as on Q1FY14 Vs 5.4% as on FY13. The ratio for private bank increased from 1.

Huge pipeline and delays in infrastructure projects which are scheduled to commence during FY1 4 will lead to elevated level of fresh restructuring during FY14 as well.

7 Banking: Asset quality aggregates The outstanding restructured portfolio for PSBs have increased to 5.9% of loan book as on Q1FY14 Vs 5.4% as on FY13. The ratio for private bank increased from 1.3% to 1.5% during the same period. Huge pipeline and delays in infrastructure projects which are scheduled to commence during FY1 4 will lead to elevated level of fresh restructuring during FY14 as well. Given the elongated period of slowdown, corporate which were restructured previously has high probability of slipping to non performing category. Declining economic activity and delays in government spending has continued to dent asset quality of banks, specially PSBs. Gross slippages (annualized) for PSBs has increased from 1.5% in FY13 to 3% in Q1FY14. The ratio for private bank increased from.6% to 1.% during same period. The stress has now broad-based covering most of the industry. Source: Company, PhillipCapital India Research 7

8 Banking valuation Private Bank GDP Growth %, lhs Interest rate %, lhs P/ABV +1.65SD -1.65SD Historically, 9% of the time, Private banks have traded in the range of 3.1x 1.3x, 1yr forward ABVPS Current valuation of 1.7x is below the median valuation of 2.3x. Private banks are trading at ~ 14% premium to PSBs (highest since peak of March 28) 2.8 Sep-5 Sep-6 Sep-7 Sep-8 Sep-9 Sep-1 Sep-11 Sep-12 Sep-13. Public Bank GDP Growth %, lhs Interest rate %, lhs PS Banks (P/ABV) +1.65SD -1.65SD Historically, 9% of the time, PSBs have traded in the range of 1.7x.8x, 1yr forward ABVPS. Current valuation of.7x is a 4% discount to median valuation of 1.2x. The slowing economic activity (slowest in last 1 years) may lead to further downside in asset quality and therefore its valuation.. Sep-5 Sep-6 Sep-7 Sep-8 Sep-9 Sep-1 Sep-11 Sep-12 Sep-13 Source: PhillipCapital India Research 8

9 Life Insurance: Total premium Total Industry Total premium (Rs bn) Growth (YoY) (rhs) Total premium for the life insurance industry (new + renewal) declined by.3% YoY in FY13 (-1.3% in FY12). Total premiums for LIC increased by 2.9% YoY in FY13 (-.2% YoY in FY12) In terms of new business, APE for life insurance industry declined by 15.3% YoY driven by a sharp decline in APE for LIC due to higher growth in single premium policies and a sharp decline in First year premiums. FY6 FY7 FY8 FY9 FY1 FY11 FY12 FY13 Private Insurers 1 Total premium (Rs bn) Growth (YoY) (rhs) Private insurer s total premium declined by 8.1% YoY in FY13 as against a decline of 3.8% in FY12. In terms of new business, APE of private players increased by 3.9% YoY in FY13 (-17.8% in FY12) Owing to a sharp decline in LIC s APE over the last few months, private players market share has stabilized at 4%+. -2 FY6 FY7 FY8 FY9 FY1 FY11 FY12 FY13 9

10 Life insurance: Annualized Premium Equivalent (APE) Annualised Premium Equivalent Growth Rate 4 Private Players APE growth YoY (%) LIC APE growth YoY (%) Apr-12 May-12 Jun-12 Jul-12 Aug-12 Sep-12 Oct-12 Nov-12 Dec-12 Jan-13 Feb-13 Mar-13 Apr-13 May-13 Jun-13 Market Share 1 Private insurers LIC Apr-12 May-12 Jun-12 Jul-12 Aug-12 Sep-12 Oct-12 Nov-12 Dec-12 Jan-13 Feb-13 Mar-13 Apr-13 May-13 Jun-13 1

11 Life insurance: APE Trend 11

12 MACRO 12

Policy rates Policy Rate (%) 12 1 8 6 4 2 WPI Repo Rate SBI 1yr Dep Rate CRR Inflationary risks has resulted in an increase in key policy rates.

13 Policy rates Policy Rate (%) WPI Repo Rate SBI 1yr Dep Rate CRR Inflationary risks has resulted in an increase in key policy rates. On 15 th July, to curb rupee volatility, RBI squeezed liquidity by increasing the MSF rate to 1.25%, which now has been reduced to 9%. Consequently, the short term rates have increased. We expect short term deposit rates to remain high. The Sep 213 policy document suggests a possibility of rates remaining high. Sep-1 Dec-1 Mar-11 Jun-11 Sep-11 Dec-11 Mar-12 Jun-12 Sep-12 Dec-12 Mar-13 Jun-13 Sep-13 Persistent negative real interest had impacted growth in bank deposit. With the decline in WPI, the real interest optically has improved but the high CPI continues to haunt savers. The moderation in inflation and government endeavor to discourage savings in physical form, may witness some traction in bank deposit. Volatile capital market, weak outlook on gold and positive real interest rate on deposit may result in term deposit gaining prominence as a saving instrument. Source: Bloomberg, PhillipCapital India Research 13

14 Yield curve Yield Curve (%) 1 yr CD rate Sep-13 Aug-13 Jul G-Sec 1yr G-Sec 2yr G-Sec 3yr G-Sec 5yr G-Sec 5yr G-Sec 1yr Sep-7 Jan-8 May-8 Sep-8 Jan-9 May-9 Sep-9 Jan-1 May-1 Sep-1 Jan-11 May-11 Sep-11 Jan-12 May-12 Sep-12 Jan-13 May-13 Sep-13 AAA Corporate Bond Spread over G-Sec 1 Yr spread 2 Yr spread 3 Yr spread 4 Yr spread 5 Yr spread Mar Jun Jul Aug Sep Liquidity tightening measures by RBI resulted in an upward and steeper yield curve in July and August 213. The corporate bond spreads also turned negative for shorter tenors. However, the MSF cut in the recent policy by 75 bps and 5 bps thereafter resulted in flattening of the yield curve. Yields may not decline going forward on account of higher borrowing calendar in 2HFY14 and limited rate action from RBI. Source: Bloomberg, PhillipCapital India Research 14

15 Money supply data LAF (Repo) / Rev. Repo Factors affecting liquidity 5 LAF (Rs bn) Call Rate (rhs) 12 Change in Curr. In circulation (m-o-m Rs bn) Change in Govt. cash balance (m-o-m Rs bn) Jan-11 Mar-11 May-11 Jul-11 Sep-11 Nov-11 Jan-12 Mar-12 May-12 Jul-12 Sep-12 Nov-12 Jan-13 Mar-13 May-13 Jul-13 Sep-13 Jan-11 Mar-11 May-11 Jul-11 Sep-11 Nov-11 Jan-12 Mar-12 May-12 Jul-12 Sep-12 Nov-12 Jan-13 Mar-13 May-13 Jul-13 Sep-13 M3 Growth (YoY %) M3 growth continues to moderate (12.5% YoY as on Sep 13) despite improvement in advances growth Factors like high government cash balances and central bank s intervention in forex to support rupee can be seen as possible reason for weak M3 growth. 1 Liquidity has remained tight since the measures announced by RBI on 15 th July. 8 Sep-11 Nov-11 Jan-12 Mar-12 May-12 Jul-12 Source: Bloomberg, PhillipCapital India Research Sep-12 Nov-12 Jan-13 Mar-13 May-13 Jul-13 Sep-13 Borrowing under LAF window have narrowed since July on account of limitations enforced by RBI (.5% of NDTL). 15

16 Fiscal conditions GOI Borrowing Incremental net borrowing (Rs bn) GIND1YR Index (rhs) A falling rupee, rising global treasury yields and weak macro-economic fundamentals sent 1-year benchmark bond yields vaulting over 8.5%. Expectations of a repo rate hike after the inflation data are pushing up the yields on government securities Sep-11 Nov-11 Jan-12 Mar-12 May-12 Jul-12 Sep-12 Nov-12 Jan-13 Mar-13 May-13 Jul-13 Sep-13 Date % of FY14 Budgeted borrowing Amount (Rs bn) Date % of FY13 borrowing Amount (Rs bn) Apr Apr May May Jun Jun Jul Jul Aug Aug Sep Sep Oct Oct Nov Nov Dec Dec Jan Jan Feb Feb Mar-14 Mar Net borrowing FY14 (budgeted) 47 Net borrowing FY13 (Actual) 4674 Source: Bloomberg, PhillipCapital India Research 16

17 Macro snapshot Latest 1M-Ago 3M-Ago 6M-Ago 12M-Ago Forex Reserves, $Bn Government Borrowing, Rs Bn WPI,% CPI,% Index of Industrial Production,% core Industry,% Exports, $ Bn Imports, $ Bn Trade Deficit, $ bn GDP,% Agriculture,% Industry,% Services,% Exports, $ Bn Imports, $ Bn Trade Deficit, $ Bn Invisibles, $ Bn Current Account Deficit, % of GDP Net capital flows, $ Bn Source: Bloomberg, PhillipCapital India Research 17

18 Valuation matrix: Coverage universe MCap MCap CMP Gwth (12-14E) P/Adj. BV RoE (%) NII(Rs bn) NIM(%) CAR(%) Opg. Profit (Rs bn) Cost to Income ratio Rs bn US$ bn (Rs) NII % PPP% PAT% FY12 FY13e FY14e FY12 FY13e FY14e FY12 FY13e FY14e FY12 FY13e FY14e FY12 FY13e FY14e FY12 FY13e FY14e FY12 FY13e FY14e Public Sector Banks Andhra Bank % 2.8% 2.7% Bank of India % 2.2% 2.2% BOB % 2.3% 2.2% Canara Bank % 2.1% 2.1% Corp Bank % 2.% 1.9% IOB % 2.3% 2.3% Oriental Bank % 2.5% 2.5% PNB % 3.2% 3.1% SBI % 3.2% 3.1% Union Bank % 2.7% 2.5% Private Sector Banks Axis Bank % 3.2% 3.1% HDFC Bank % 4.5% 4.5% ICICI Bank % 2.9% 3.% Dvpt Cr Bank % 3.% 2.9% NBFC's HDFC Ltd %.%.% Shriram Transport Fin % 8.% 8.1% Source: Company, PhillipCapital India Research Estimates 18

19 Valuation matrix: Coverage universe PAT(Rs bn) CASA(%) EPS (Rs) Adj BV (Rs) GNPA(%) NNPA(%) FY12 FY13e FY14e FY12 FY13e FY14e FY12 FY13e FY14e FY12 FY13e FY14e FY12 FY13e FY14e FY12 FY13e FY14e Public Sector Banks Andhra Bank % 25.5% 25.6% Bank of India % 24.5% 24.6% BOB % 25.1% 25.8% Canara Bank % 24.1% 24.8% Corp Bank % 21.6% 21.5% IOB % 26.4% 25.9% Oriental Bank % 24.5% 24.8% PNB % 39.1% 39.4% SBI % 4.3% 4.% Union Bank % 3.9% 3.8% Indian Bank % 27.6% 27.1% Private Sector Banks Axis Bank % 44.3% 43.4% HDFC Bank % 46.5% 45.7% ICICI Bank % 41.5% 41.% Dvpt Cr Bank % 27.2% 26.4% NBFC's HDFC Ltd Shriram Transport Finance Source: Company, PhillipCapital India Research Estimates 19

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Banking Monthly. Manish Agarwalla Sachit Motwani, CFA, FRM

Banking Monthly. Manish Agarwalla Sachit Motwani, CFA, FRM Banking Monthly Manish Agarwalla Sachit Motwani, CFA, FRM 26 February 214 Summary Industrial indicators such as IIP, PMI, and core sector data have improved vs previous months; however, this is only a