PSU banks are likely to see a turnaround in profitability given that most of the pain has been recognised and NPA and credit costs are peaking out, which will lead to an improvement in return ratios, suggest experts
The Nifty PSU Bank index has surged about 5 percent so far in 2019 and experts believe the ongoing rally in the index is likely to continue.
This recent surge in the index comes on the back of over 16 percent plunge seen in 2018.
The valuations are also in line with the long-term average and just right for the rally to continue and investors should look for quality stocks that are available at reasonable valuations, experts suggested.
PSU Banks are trading at a P/B of 1.0x, in line with the historical average of 0.9x. An earnings bounce-back is anticipated FY20 onwards, which should further support stock performances.
“Trends in NPL formation, provisions and loan growth remain the key things to watch. Valuations for PSBs have recovered gradually on the recent capital infusion by the government and improving earnings trajectory,” Motilal Oswal said in a report.
“Also, with the NDA government making a comeback, we expect further consolidation amongst PSBs,” it said.
PSU banks are likely to see a turnaround in profitability given that most of the pain has been recognized and NPA and credit costs are peaking out, which will lead to an improvement in return ratios, suggest experts.
PSU Banks, which have been suffering from rising bad loans, are witnessing moderation in their GNPA and NNPA ratios as well as slippages and credit costs since the last few quarters. Their stressed asset formation has also considerably reduced.
IIFL Securities estimates that the GNPA ratio of PSU banks is likely to decline from 9.2 percent (expected) in FY19 to 7.5 percent in FY21E.
“The earnings trajectory of PSU Banks is likely to trend up over the next few years. Lower incremental stressed asset formation, higher resolution of stressed assets, improved growth appetite and enhanced revenue recognition will drive the profitability of these banks,” said the report.
IIFL Securities is of the view that since PSU banks are trading at attractive valuations of >1x FY21E P/BV (barring SBI), we believe there is a strong case for re-rating going forward given improving earnings growth prospects.
IIFL Securities believes that PSU Banks are likely to report better earnings going ahead, driven by moderation in slippages leading to lower credit costs, improving margins through better income recognition and improving loan growth.
According to the brokerage firm, SBI, Bank of Baroda and Canara Bank will lead the rally in PSU Banks in the next 9-12 months:
State Bank of India: Buy| Target: Rs 417| Support: Rs 310
SBI’s return ratios for FY20/21E should improve on better traction in core fee income and drop in credit costs. Further, better loan growth, lower cost-to-income ratio, and margin expansion will drive its RoA, which is expected to improve from 0.1 percent in FY19 to 0.9 percent in FY21E.
SBI’s RoA will improve owing to domestic loan book growth, lowering stress asset formation, the decline in slippages and credit cost, and improvement in return ratios. Further, low-cost deposit profile and better income recognition will drive NIM.
The stock is trading attractively at 1.1x FY21E P/BV. The bank’s core operating performance is expected to improve over FY20-21E and recovery in IBC cases will drive RoA. We expect core RoA of 0.9 percent and RoE in the range of 13-14 percent by FY21E.
Bank of Baroda: Buy| Target: Rs 170| Support: Rs 115
The merger of Dena Bank and Vijaya Bank with Bank of Baroda (BoB) is effective from April 1, 2019. The consolidated entity stands to benefit from merger synergies, lowering stress asset formation, improvement in margins, cross-selling opportunities, a decline in slippages and credit cost and improvement in return ratios.
The bank’s asset quality is set to improve over FY20-21E led by resolution of stress assets, stable residual stress, moderation in slippages and focus on recovery. The NPA cycle for the bank has started reversing and would reduce the provisioning substantially in the coming years.
Moreover, recognition of the majority of stressed assets and focus on recovery to check credit cost. The bank’s healthy operational performance led by business growth and cross-selling opportunities in addition to merger synergies will aid earnings for FY20E/21E. The stock is trading attractively at 0.60x FY21E P/BV.
Canara Bank: Buy| Target: Rs 318| Support: Rs 230
Canara Bank’s lower incremental stressed asset formation, higher resolution of stressed assets, lower provisioning, improving growth appetite and enhanced revenue recognition will drive further profitability of the bank.
Moreover, margin improvement and better non-interest income growth will support earnings. IIFL Securities expect RoA of the bank to improve from 0.1 percent in FY19 to 0.5 percent in FY21E.
Canara Bank’s improving asset quality, better NIM prospects and rising non-interest income bodes well for its profitability over FY19-21E. The earnings trajectory of Canara Bank is likely to trend higher over the next few years.
The bank has recognised a major part of its stressed assets as NPA, we expect normalcy in earnings. It holds 30 percent stake in Canfin Homes where the improving loan book and return ratios raise the prospects for further growth. The stock is trading attractively at 0.59x FY21E P/BV.
Disclaimer: The above report is compiled from information available on public platforms. Moneycontrol.com advises users to check with certified experts before taking any investment decisions.
