While bulls are still not ready to give up on the potential of PSU bank stocks due to the sharp earnings swing, the case for the underdogs is getting louder as PSU bank valuations are at all-time highs while private banks are at close to decade highs. lows
Private banks trade at a price-to-book (P/B) valuation of 2.3 versus the 10-year average of 2.5. On the other hand, the PB of PSU banks is at 1.2 against the long term average of 0.8.
In the 5-year time frame, all 12 PSU bank stocks are trading well above their average PB levels while underperformers HDFC Bank and Kotak Mahindra Bank are trading well below their 5-year average PB levels.
Valuations will become all the more important in a bull market like this one, where greed has overtaken fear to make most stocks look overvalued.
“The only exception among the larger sectors appears to be the financial sector where valuations of most private banks have contracted over the past 2-3 years and valuations of PSU banks have expanded but at reasonable levels over the same period,” said Sanjeev Prasad of Kotak Institutional Equities.
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Market insiders are betting that private banks are now in a much better space to grow rather than some of the PSUs.
“Take some money out of PSUs. We are not saying exit completely, but enter some of the quality large-cap private banks including HDFC Bank. They have made it clear that they will not give in to lower NIMs just because of deposits. There will be a gradual slope and at twice price to book, HDFC Bank seems to be the big cap that can move. We are bullish on all three – HDFC, ICICI and Kotak,” said Dalal Street veteran Sanjiv Bhasin.
While valuations are a key part of the puzzle for PSUs, there are significant fundamental arguments in their favor. The PSU bank rally is largely attributed to a sharp earnings turnaround on asset quality improvements and attractive valuations.
“PSU banks have also typically enjoyed lower loan-to-deposit ratios, allowing them to push loan growth. PSU bank credit growth in FY24 is within 2-3ppt of private, against the 8-10 ppt gap in growth seen pre-COVID,” Jefferies. said
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Low-free float of many PSU bank stocks also contributed to the upside. Take Indian Overseas Bank for example. Its stock has jumped 174% in one year and enjoys the highest PB of 5.45 against the 5-year average of 1.43 and SBI’s current PB of 2. The re-rating is partly because the government owns about 96.38% of shares leaving very a small number of. shares available for trading in the market.
The demand-supply mismatch can be seen in other PSU banks like Punjab & Sind Bank, UCO Bank and Central Bank of India. Government ownership is over 90% in all of them.
Jefferies analysts see a 25-30% upside potential on PE / PB valuations in PSU bank stocks while Nomura analysts believe that the biggest challenge for investing in PSU banks stems from their erratic asset quality records, where the current benign cycle is in their favor. .
“Furthermore, PSU banks (except SBI) also do not have material exposure to unsecured retail, which is the key problem area from an asset quality perspective for the sector, in our view. In terms of sensitivity to rate cuts, PSU banks. have similar negative sensitivity to NIM like the private banks,” said Nomura’s Param Subramanian.
(Data: Ritesh Presswala)
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