Banks Q2FY18 Preview: Earnings to remain subdued | Asset quality stress to stay elevated | Banking stocks for investment |

The key factors expected to impact earnings for the quarter are: (a) tepid corporate loan growth, (b) excess liquidity chasing quality credit (pressure on yields), and (c) progress on stressed asset resolutions under Insolvency and Bankruptcy Code (IBC) as well as quantum of new cases referred. Backed by excess liquidity and continued high CASA ratio in the system, cost of funds may remain benign, especially for bulk lenders. We expect trading gains to remain flat/decline marginally v/s 1Q.

– Key things to watch for: (a) Banks’ comments on the second list of exposures referred to the IBC, outstanding provisioning and the expected impact in the ensuing quarters, (b) stake sale in strategic assets and capital raising plans, (c) power sector exposure, (d) comments/accounting on the large assets resolution (ESSAR, JP Associates) during the quarter, and (e) the trend in retail loan growth post demonetization (large banks better placed with CoF advantage). In our view, excluding power, most of the highly levered sector stress exposures are well communicated/recognized by banks; however, there could be surprises in the case of existing restructured/SDR cases being referred to NCLT. In the power sector, long-term restructuring in the recent past would make it difficult to assess the asset quality impact for FY18.

– On a sequential basis, we expect profit growth to pick up for state-owned banks as a whole due to moderation in provisions from the highs of 1QFY18. YoY growth is expected to be strong on a benign base, more so for private banks like AXSB. We expect balance sheet clean-up for ICICIBC and AXSB to continue, which would remain as an overhang on their profitability. Mid-sized private banks would continue to outshine peers due to continued market share gains (loan growth of 4-5x system), stable asset quality, and stable-to-improving margins (sharp fall in bulk deposits). We expect IIB, YES, RBL and KMB to report PAT growth of ~25% YoY.

– For comparison, SBIN base quarter earnings are adjusted for associate bank performance. Hence, there is a strong variation in SBIN’s earnings on both QoQ and YoY basis. We remain upbeat on the value migration story from stateowned banks to private sector banks. Within private sector banks, the emerging private banks are likely to be the major beneficiaries. Within state-owned banks, we like SBIN and BOB. Among private sector banks, our key picks are HDFCB, ICICIBC and YES.

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