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HDFC Bank's Q1FY20 results (Outperformer) - A bit soft but still strong. Early warning signals for retail stress

Q1FY20 results highlights

• HDBK reported strong and in-line earnings growth in a weak environment for financials. PAT grew 21% yoy but declined 5% qoq. Loan growth was the slowest in the last 10 quarters at 17% yoy and 1% qoq. NIMs rose yoy 10bps but fell 10 bps qoq. NII growth of 23% yoy remained strong with softer loan growth but higher yoy margins. High NII and trading gains helped offset slower fee growth. Core PPOP grew 22% yoy and 3% qoq better than 20% yoy in 4Q.
• Loans grew 17% yoy and 1% qoq. While loan growth remained higher than the sector’s, it is at a 10-quarter low, pulled down by auto and business banking loans, and by maturity of short-term corporate loans. Retail loans grew 16% yoy and 2% qoq. Personal loans at 25% yoy, credit cards at 28% yoy and home loans 27% yoy grew strongly while auto loans at 4% yoy, CVs at 17% yoy and business banking at 15% yoy lagged. Non-retail loans grew 19% yoy, slower than 36% in 4Q, due to maturity of short-term loans.
• Deposit growth was strong at 18% yoy and 3% qoq. CASA ratio declined 267bps qoq to 39.7% while growth in fixed deposits was higher at 23% yoy and 8% qoq as has been the trend in the last few quarters. NIM improved 10bps yoy to 4.3% as higher asset yields offset higher cost of funds. NII grew 23% yoy and 2% qoq.
• Core fees remained subdued growing12% yoy and declining 4% qoq due to lower mutual fund fees and were partly offset by higher yoy trading gains.  Non-interest income grew 30% yoy and 2% qoq.  Opex grew 19% yoy and was flat qoq. CI ratio fell to 39% versus 39.6% qoq and 40.9% yoy.
• There was a sharp increase in specific provisions by 69% yoy and 69% qoq. The sharp increase was driven by 1) higher farm NPLs and 2) high rate of provisioning on non-performing unsecured loans. Mgmt reiterated that the higher rate of provisioning is due to the general consumption slowdown in the economy and is precautionary.  In addition to specific, the bank made general provisions of Rs1.65bn towards sensitive sectors. Total credit cost at 1.3% was much higher than 0.9% qoq and 1% yoy. Adjusted for farm NPLs and unsecured loans, credit cost would have been lower at 85bps versus the reported 1.3%. Slippage rose to 2.4% of lagged loans from 2.2% qoq as farm slippage continues to be high. GNPAs rose 5% qoq to 1.4%.
• HDB Financials saw a sharp increase in GNPAs of 32% qoq while loan growth remained strong at 3% qoq. PAT grew 3% qoq. Increase in GNPAs was mainly from  small CV/CE borrowers.

Valuation and view

HDFC Bank is the only risk-off trade in the financial sector in the current environment. Despite slower loan growth and higher precautionary provisions, HDFC Bank remains the best investment option given its strong risk management, cautious provisioning, stronger-than-sector growth, high capital adequacy, digital leadership and wide distribution. We reiterate Outperformer.  From mgmt. comments and HDB’s NPLs it appears that first signs of stress are visible in certain segments of retail loans specially unsecured loans and small CVs.