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FY19 could be last year of worst earnings for banks: Suresh Ganapathy, Macquarie

Market value attributed to ICICI’s core banking biz is one-time price to book, says Ganapathy.

, ET Bureau|
Updated: Apr 24, 2018, 10.06 AM IST
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Suresh Ganapathy, Macquarie
"Latest holding data show that FIIs have further pared down their stake in public sector banks."
The current financial year could be the last year of weak earnings for the banking sector, said Suresh Ganapathy, head of financial services research, Macquarie. The improvement in earnings would be aided by resolution of insolvency cases by the National Company Law Tribunal and upfront recognition of bad assets. In an interview with Sanam Mirchandani, Ganapathy said ICICI Bank, which has been embroiled in a controversy over Videocon loans, is among his top picks in the banking space due to favourable risk-reward.

Edited excepts:

Is the worst over for banks on the earnings front?

The next three-four quarters are going to look pretty bad because there is going to be a lot of upfront recognition of some of these assets. The earnings picture looks very bleak not only for the fourth quarter, but also for FY19. The RoE for the entire public-sector banking universe in FY19 is going to be in low single digits, around 5%-odd or so. The retail private sector banks will have about 17-20% kind of RoE. Even ICICI and Axis are going to be in low double digits or so in FY19. We believe FY19 is going to be the last year of the worst earnings where all the problems are being recognised. We will start seeing little bit of NCLT resolutions also happening. So FY20 onwards, there has to be some improvement in earnings across the sector.

Does it hold true for both PSU and private banks?

Both. In private banks, we will have to segregate between corporate and retail banks. Retail banks have been doing very well over the course of the past couple of years and will continue doing so. It is mainly the corporate-oriented banks like ICICI and Axis which will go through a painful period over the course of the next 2-3 quarters as they recognise many of the watch-list accounts they have got, restructured assets they have got as NPLs, and as they clean up the books. FY20 onwards banking sector will also move to IFRS. All the backlog of provisions, which needs to be taken, will be taken by the end of FY19, and then FY20 will be giving you a much clearer picture across the banking sector stocks.

Do you see ICICI Bank shares tiding over the Videocon loan issue or is there more downside?

The worst is already priced in the stock. Fundamentally, Videocon has already been classified as an NPL. I don’t see a reason to change my earnings or numbers very significantly because of this particular issue. Considering that there is no new earnings surprise coming out of this issue, fundamentally the stock looks pretty ok because it is valued at one-time price to book. The main advantage ICICI has over Axis, or for that matter many of the other weak corporate banks, is that it has enormous value which it has created in all its subsidiaries and these subsidiaries are trading at a very high level of valuations. If you were to factor that into the market price of ICICI, the implied market value which is being attributed to ICICI’s core banking business is one-time price to book which is where some of the large cap PSU banks are trading. So clearly that’s where the advantage lies. Unless and until the probe finds that the issue is much more pervasive, the downside in the stock is limited.

Do you see a case for buying Axis Bank’s shares as well?

No. The problem with Axis relative to ICICI is that Axis will have to again come back to the market to raise money after factoring in for all the write-offs. They recently did raise money from Bain. That will just suffice for providing for all the bad assets. There is an equity raising overhang on the stock which will again come in six to nine months, which can cause underperformance.

Which are your top picks in the banking space?

The three top picks will be HDFC Bank, YES Bank and ICICI Bank. HDFC Bank is power of compounding story. It is likely to see strong earnings growth over the course of the next three years and has a stable balance sheet. YES Bank will be less affected because of the revised (NPA) recognition rules (by RBI). ICICI Bank is a valuation and risk-reward call.

Will the market continue to favour private banks?

Latest holding data show that FIIs have further pared down their stake in public sector banks. The trend will still continue because investors are looking for areas where there is growth and visibility. Private banks will remain top of the charts for all the investors.

What are the key triggers for the banking space going ahead?

The next 2-3 quarters are important because the IBC cases resolution will happen so what the market needs to really track is the kind of haircuts that banks might have to take in these 40 cases and what is the scheme of resolution. That’s what is eventually going to determine the eventual losses that banks have to take and if at all there is going to be writebacks. The market expects anywhere between 60-65% haircuts in these names, but if the haircut on a weighted average basis turns out to be 40-50%, then banks are going to enjoy quite a big amount of write-backs.

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