PSU Banks: Does the new election verdict derail the party for good?

With the BJP government falling short of the halfway mark, market concerns about uncertainty in government functioning and policy decisions have grown

PSU banks continued to be under pressure in early trade on June 5 after the mauling yesterday. Market experts expect PSU stocks, including banks, to consolidate till there is clarity on the government’s policies in light of the reduced majority.

"Once political stability is achieved, we can expect this correction in PSU bank stocks to bottom out,” said Chokkalingam G, Founder of Equinomics Research.

“As a trading strategy, we recommend investors to wait at least two days before investing new money," he said.

Jignesh Shah, head of the BFSI sector at InCred Capital, has a similar view. "I wouldn't say the PSU banking rally is over, but market participants will closely watch for any new government measures," he said.

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With the BJP government falling short of a majority on its own, market concerns about uncertainty in government functioning and policy decisions have grown.

Reflecting these concerns, shares of Union Bank, Bank of Baroda, Indian Bank, Central Bank, PNB, Indian Overseas Bank, Canara Bank, SBI, UCO Bank, Bank of India, and Maharashtra Bank tumbled between 11-16 percent on June 4 as the counting was underway. However, Canara Bank, IOB, PSB, PNB recovered some of the losses on June 5 by gaining up to 2 percent on June 5.

Investors who have been holding PSU stocks for the last 2-3 years are still sitting on handsome profits, as many of these stocks have doubled because of the improved balance sheets, access to low cost deposits, strong loan growth, improved governance, and increased use of technology.

Devarsh Vakil, Deputy Head of Retail Research at HDFC Securities, believes Indian banks, especially state-owned ones, had their best fiscal year in 2024, marked by robust growth and decadal-low bad loans.

While the valuations are no longer as cheap as they were till a couple of years back, they are still credible investment bets, thanks to factors like healthy fee income, and a relatively lower credit-to-deposit (CD) ratio.

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A recent FICCI-IBA bankers' survey also showed a significant reduction in PSU banks' bad loans over the past six months, with 77 percent of respondent banks reporting a decrease in NPA levels, and public sector banks showing better asset quality trends than private sector counterparts.

Looking ahead, over half of the respondent banks predicted their gross NPAs would be in the range of 3-3.5 percent in the next six months, while about 14 percent expected NPA levels between 2.5-3 percent.

However, investor confidence in PSU banks remains uncertain, depending on the stability of the coalition how governance unfolds.

UBS analysts cautioned that the government might not function as smoothly as in the past decade, when the PM's office had strong control over government machinery. The BJP's search for alliance partners could lead to significant policy changes and disrupt growth momentum.

At this time of uncertainty, some market experts say it is better to stay away from PSU bank names for the time being. However, once clarity emerges, Vijayakumar of Geojit Financial Services reiterated his bullish stance on SBI, Bank of Baroda, and Canara Bank from the medium-to-long term perspective, citing attractive valuations.

Currently, SBI trades at a 10.3x price-to-earnings (PE) ratio, while BoB trades at 6.8x PE, and Canara Bank at 6.5x PE, all significantly below the sector's median PE of 10.6x.

Fundamentally, nothing drastic has changed for PSU banks, but analysts generally agree that it is too early to decide if the PSU banking rally has really ended.

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