It doesn’t look like the rally in bank stocks will end anytime soon. At least that’s what can be inferred from how analysts are rerating select bank stocks, raising their target prices and earnings estimates.
Morgan Stanley has gone a step ahead and rerated the entire banking sector, initiating what it called the second leg of the rerating cycle. Bank stock rerating cycles work in two legs and Indian banks appear to be in a transition phase between the two, the brokerage house said in a September 6 note.
“The first leg is usually driven by expectations around better asset quality. As tail risks recede, stocks improve sharply to normalised multiples – this has already occurred over the past two years,” it said. “The second, more sustained leg is usually driven by loan growth acceleration that sets an earnings upgrade cycle, and we believe catalysts for this are falling into place.”
The impact of the first leg is already visible in the stock prices. The Nifty Bank index, a representative measure of the banking sector, is up over 11 percent so far this year compared to the much broader Nifty, which has risen 1.56 percent.
For the past few quarters, banks have enjoyed healthy credit growth, strong balance sheets and improving asset quality. Analysts at Morgan Stanley said they now expect loan growth to accelerate and be sustained as capex spending speeds up.
“Our macro team sees a new leg of investment upcycle led by improving trends in capacity utilisation rates, in addition to corporate sector profitability and de-leveraged banking sector balance sheets. This in turn could foster job creation, accelerate income growth, and drive more growth opportunities even in the retail/SME segment,” said Morgan Stanley.
Also read: Benchmark indices subdued but market cap at a new high on rally in broader space
It raised loan growth estimates by 2 percentage points (ppts) to 16 percent for FY24 and 3 ppts to 17 percent for FY25. This, coupled with lower credit costs, drives its earnings estimate upgrades (2 ppts in pre-provisioning operating profit growth) and higher RoE assumptions, the broker added.
What has surprised some money managers is that credit growth has jumped in India when global issues have resurfaced and an economic slowdown looks imminent. That means Indian lenders are bucking the global trend.
“In all past instances, we have seen Indian banks' credit growth slipping as the global and Indian economy slowed. In this cycle, however, we are yet to see banking credit growth slow. In fact, this is for the first time that credit growth is improving even when global growth falters,” DSP Mutual Fund said in a recent note.
“Credit growth in India may not slow down significantly and lending may remain a strong investment case,” it added, reiterating what Morgan Stanley said in its report.
Morgan Stanley increased price targets for all bank stocks under its coverage. It sees an upside of up to 41 percent in these stocks, with ICICI Bank leading the charts.
“We scan for stocks that are not fully pricing in a growth upcycle, have access to retail deposits and high liquidity, and appear well-equipped to accelerate market share gains as the macro outlook improves,” it said, adding ICICI Bank, Axis Bank, Bank of Baroda, and State Bank of India are well-placed to capitalise on the upcoming growth cycle.
It remains selective on mid-sized banks, with Federal Bank and AU Bank being preferred picks.
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