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Financials: Q4FY19E Preview – Stable for banks, some improvement in NBFCs

Key sector highlights for 4Q19E: 1) Sector loans grew 13.2% yoy and 4.6% qoq slightly slower than 14.7% yoy in 3Q.  2) Deposit growth picked up to 10% yoy / 4.5 qoq but still lags credit growth. Incremental CD ratio fell from over 100% in 3Q to 79% in 4Q.  3) 10-yr bond yield remained unchanged but the 3 yr and 5 yr fell 25 bps qoq. With volatility in yields and correction in the shorter tenors, banks had enough opportunities to book trading gains and/or investment write-backs on the AFS portfolios though the quantum would be much lower than in 3Q. We estimate state banks would have 40-50% of their AFS portfolios in the 10-year bond while the remaining in shorter tenor securities.  4) The rupee appreciated by 0.9% in 4Q versus depreciation of 3.8% qoq in 3Q, which would mean that banks will not report exchange driven slippage even in 4Q. 5) We expect NIMs to remain broadly stable for banks. 6) Jet Airways and Shree Renuka Sugars are the key accounts that have likely slipped in 4Q. Lalitpur Power where SBI has an exposure of Rs46bn could also slip but we have not factored that into our 4Q slippage numbers. Based on an NCLT order, banks will not classify their amber/red exposure to IL&FS as NPL even if it is in default. RINFRA, RCAP, Suzlon, DHFL, Essel group and companies involved in residential real estate are potential stress loans for banks but in our view none of these have slipped in 4Q. (Two banks have already classified RInfra as NPL in 3Q). Slippages will be a mixed bag with SBI and ICICI likely to see higher qoq slippage (on a low base) while all others would likely to see a sequential reduction.  7) Expected lumpy recoveries from Bhushan Power and Steel and Essar Steel could not come through in 4Q.  Recoveries will be lower sequentially with no lumpy account resolved. However corporate banks will see a sequential reduction in NPLs as slippages will be lower than recoveries, like in 3Q. 8) For NBFCs, slowdown in auto sales for vehicle financiers, higher AUM growth for large HFCs as they gain market share and higher cost of funds / lower NIMs following the liquidity crisis will be the key earnings drivers.

Key expectations for retail private banks: Performance of retail banks will remain similar to 3Q with strong loan growth. We expect earnings growth of 19% yoy for KMB and 22% for HDB. For IIB while loan growth will be strong and NIMs will be stable qoq, provisions will increase substantially due to IL&FS. We expect PAT for IIB to decline 38% yoy and 40% qoq. Core PPOP will grow 22% yoy and 7% qoq.

Key expectations for corporate private banks: YoY earnings growth will look strong for corporate banks due to losses reported last year following the Feb 12 circular.  For ICICI, we expect profit of 17bn growing 67% yoy and 6% qoq. We expect loan growth of 15%yoy/ 4%qoq. NIMs could stay stable even on the high base of 3Q, where the bank booked recovery income of Essar Global through NII, as there could be recovery from other NPLs which typically happens in 4Q for ICICI.   We expect slippage of Rs26bn which is much lower than the run rate of the last few years but higher qoq due as Shree Renuka Sugars (Rs9bn) has likely slipped.  Provisioning will remain elevated as the bank targets a PCR of 70%.  For AXIS we expect a small 5bps improvement in NIMs and loan growth of 15% yoy and 6% qoq. We expect slippage of Rs32bn lower than Rs37bn in 3Q. For YES, we expect slippage of Rs17bn lower than Rs23bn qoq but still high at 3.3% of lagged loans, higher provisioning, lower NIMs and a decline in PAT of 45% yoy and 35% qoq. We expect NPL recognition and provisioning to accelerate for YES in FY20E after the equity issuance.

Key expectations for state banks and NBFCs: YoY earnings growth for BoB and SBI will look strong due to losses reported last year following the Feb 12 circular, though RoAs will remain weak. We expect Union to post a small profit while PNB and BoI will likely post losses due to higher provisioning. We expect PAT of Rs39bn for SBI a strong improvement against a loss last year but declining 2% qoq. Slippage of Rs82bn will be higher than Rs65bn qoq as 3Q was unusually low on the back of lower-than-normal agri/SME slippage. Stable NIM, lower treasury income, lower-than-normal sequential pick up in fee income due to decline in account maintenance charges and lower credit cost (in 3Q SBI made accelerated provisions of Rs50bn which will not likely recur) will be the key earnings drivers. Core PPOP will decline 2% yoy due to lower yoy fees (on account of change in account maintenance charges) and lower trading gains but it will grow 20% qoq due to the seasonal pick up in fees in 4Q.  PPOP for BoB will grow 38% yoy and 4% qoq. AUM growth for HDFC and LICHF will pick up as they gain share from other HFCs however spreads will decline as higher cost of funds post Sep-18 start reflecting in numbers. The seasonal asset quality improvement will be seen in both. We do not expect any large developer loan to have slipped in 4Q. MMFS will show strong AUM growth of 19% yoy / 5% qoq though lower than in 3Q, and stable qoq NIM. With strong NPL recoveries likely to continue, credit cost will fall qoq  to 87 bps from 150 bps of AUMs. Expect PAT to grow 41% yoy and 39% qoq for MMFS. For SHTF PAT will grow 6% qoq and 3.7x yoy on the low base of 4Q18. While AUM growth will slow to 12% yoy and NIMs will decline by 20bps, credit cost will also fall from 244bps to 223bps qoq

Key recommendations: ICICI Bank and HDFC Bank are our key picks. We reiterate buy on AXIS but the stock has already outperformed the sector YTD. We reiterate Underperformer on YES Bank as we expect a prolonged increase in credit cost and a prolonged deterioration in core operating performance.  We believe volatility in earnings of state banks will continue with changing yields and low RoAs. As such we prefer owning private banks. If one must invest in a state owned bank it would be SBI. But given the weak RoA profile, we refrain from being too bullish on the stock. Among NBFCs, HDFC is our key pick. While earnings for MMFS will likely be stronger than other NBFCs we have concerns around sustainability of strong AUM growth in FY20.