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The Future of Indian Banks Is At Peril With QE Lite

Apr 11, 2016

In this issue:
» What lies ahead for corporate earnings and markets?
» IPO terrain likely to get more treacherous!
» Market roundup
» ...and more!
Tanushree Banerjee, Co-Head of Research

Take a guess...

What was the most covered topic in the financial press in FY16?

It wasn't the volatility of the stock markets...

It wasn't PM Modi's foreign relations...

It wasn't even black money, Make In India, or Startup India...

It was the nonperforming assets (NPAs) of public sector banks.

The scale of NPAs, the possible slippage of restructured assets, and the erosion of the banks' net worth were staples of the business dailies. Fodder for these stories grew as the profits of the distressed banks tanked. The inability of the RBI and the government to set things right was the highlight of the stories.

The plight of distressed banks is nothing new. Ever since 2008, bailouts of banks deemed 'too big to fail' have been commonplace. Governments and central banks in the US, Europe, and Japan tried to set things right. They came up with 'innovative' solutions to help out bad banks, including several versions of so-called 'quantitative easing' (QE) - artificial liquidity to help banks stay afloat and grow.

A non-financial entity in a similar situation would have had to file for bankruptcy. But the QEs pleased the banks, their investors, and the stock markets. And ultimately these unprecedented actions relieved the government and central banks of their tarnished performance.

In 2008, Ajit Dayal, founder of Equitymaster, wrote that this was a ball and Cinderella was going to dance well past midnight. He was right.

Several versions of QE have come over the past eight years from the US Fed Reserve, the European Central Bank, and the Bank of Japan. By now, the markets are so used to the billions of dollars of liquidity that survival without it seems like a catastrophe.

Most of us in India have been indifferent to the central bankers' antics, mainly because the RBI has never bowed to the demands of the government to boost markets. It never got high on the idea of being the saviour of the financial world. Rather, all these years, it stuck to doing what it does best - regulate the systemic risks to the Indian economy and banking sector.

The deluge of bad loans in public sector banks, however, has many people looking to the RBI. The government's role in squandering tax payer money by capitalising bad PSU banks is an old story. But the fact that the RBI chose to look the other way when the quality of loans went from bad to worse was not acceptable.

And so an urgent image makeover was in order for not just the government but the RBI as well. The central bank had to find ways to make the bankrupt banks stay afloat. It had to help them lend. It had to prove that it is tuning with the government in its efforts to revive the economy.

The monetary policy meeting of April 2016 gave a sneak peek into what my colleague Vivek Kaul dubbed QE Lite. Vivek explained why the 0.25% cut to the repo rate was actually not the core of the policy move. Rather, the RBI has nascent - but elaborate - plans to infuse lakhs of crores of liquidity.

Asad Dossani, my colleague at Daily Profit Hunter, questioned whether the RBI is now ready to join the party and get into harder stuff. He sees QE Lite as a gateway drug.

For me, the systemic risk of several Indian PSU banks wiping off billions of rupees of tax payer money is bigger than it is made out to be. The government squanders billions providing capital to these entities year after year. Now the RBI will possibly do its bit and infuse liquidity again and again through various versions of QE Lite.

As a result, PSU banks will have very little incentive to put their house in order. Chasing Vijay Mallya can't be the solution. Banks need to be accountable to minority shareholders, depositors, and taxpayers for every additional rupee that they get from the RBI and government. Without that, the entire system is at peril.

Do you think that the RBI should find more ways to offer more liquidity to banks until the quality of their lending improves? Let us know your comments or post them on Equitymaster Club.

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2:00 Chart of the Day

Indian economy has been marked by prolonged drought for some time now. Not just monsoons, but corporate earnings have run dry.

While there is still some time left before monsoons start grabbing headlines, one can already see March 2016 quarter earnings making it to newspapers headlines.

As per ET Intelligence Group's quarterly estimates, Nifty fifty companies will report better sales and double digit growth in earnings after a series of disappointing quarters.

This is not news to us. My colleague Rahul Shah has already done the math and predicted that the Sensex could go up as much as 70% in the next 2 to 3 years.

Double digit growth in earnings in this quarter indeed sounds like a good news. But do keep in mind that a lot of this growth is on account of lower base effect and softness in the commodity prices.

And that it may not suggest a revival yet.

Being long term investors, we do not give too much importance to quarterly forecasts. That said, we do believe that profit margins that are now at ten year lows are bound to revert to the mean.

However, as I recently wrote, there are several moving parts to the earnings upside. And without some key factors materializing, the 70% earnings growth may not be a reality.

Most important is the issue of overcapacity in the industry. Healthy capacity utilization will be something that I will be looking out for before recommending safest blue chips that could offer the best returns over the next three years. I have already talked about some of safest bluechips to invest in my special report titled Top 5 Stocks For 2020.

Unfortunately, markets are likely to ignore this critical factor and will be like a voting machine in the short term. If earnings do look better this quarter, valuations are likely to go beyond comfort zone. We would suggest investors to not get carried away by the short term trends and focus on bottom up analysis and valuations before betting on market upside and earnings trends.

Will March Quarter See Recovery in Earnings?


FY16 will be known as the year of revival of IPO market. Fund raising during the year touched five year high.

And yet, we believe it is this year - FY 17, that will set a new chapter in the IPO history.

Why do we think so?

Not because IPO activity is expected to be much higher this year than last year. Well, it is because of the kind of businesses that will get listed through the IPO route.

IPOs of Infibeam and Equitas have already made their way. And this is just the beginning of new age businesses tempting retail investors.

Be it ecommerce, general insurance or payment banks, the decision making is going to be tough for investors as these unconventional business with almost no comparable in the Indian listed space come up with offers.

With more offers, the risk of making a wrong choice is likely to be higher. Our regular readers already know of our caution when it comes to subscribing to IPOs. As unconventional businesses come into picture, IPO terrain is only like to get more treacherous. We believe that unless investors really understand the business and are reasonably confident of profitability and reasonable valuations, they should stand clear.


By the way, did you have a chance to go through the latest entry in Vivek Kaul's Diary? Vivek here shares an interesting conversation with this friend around real estate sector. The simple arguments with which he busts the myths and highlights the biases prevalent in the sector make for a very interesting read!


After trading on a flattish note for most of the morning session, the Indian indices slipped and went on to trade in the red in the post noon trading session. Sectoral indices are trading on a mixed note with stocks from the FMCG and banking sectors bearing the maximum brunt. Telecom stocks are leading the gains.

The BSE Sensex is trading lower by 113 (down 0.5%) and the NSE Nifty is trading down by 30 points (down 0.4%). The BSE Mid Cap index is trading up by 0.2% while the BSE Small Cap index is trading up by 0.1%.


As we head closer to Equitymaster's 20th Anniversary, it is time to reflect on our past. On this occasion we'd love to hear from you. In case you wish to share your experience with Equitymaster or read what some of our valued long time subscribers have to say about us, please do so here.

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  • I congratulate you for achieving the milestone of providing unbiased and honest equity research for the past twenty years.
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4.55 Today's Investing mantra

"It takes 20 years to build a reputation and five minutes to ruin it. If you think about that, you'll do things differently." - Warren Buffett

This edition of The 5 Minute WrapUp is authored by Tanushree Banerjee (Research Analyst) and Richa Agarwal (Research Analyst).

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2 Responses to "The Future of Indian Banks Is At Peril With QE Lite"

Madhu Saxena

Apr 11, 2016

Chasing Vijay Mallya can't be the solution. Banks need to be accountable to minority shareholders, depositors, and taxpayers for every additional rupee that they get from the RBI and government. Without that, the entire system is at peril.

Your sentence from above article, should be, Banks need to develop a mechanism to get back all the money from bad loans. Chasing Vijay Mallya and othes defaulters makes sense as each penny counts when RBI, GOI and Banks themselves have to revive themselves.

I couldn't understand your casual approach towards bad loan defaulters.


Manish Kakkar

Apr 11, 2016

Dear Tanushree,

Congrats for a well written article on QE Lite. I am of firm belief that QE is not a solution for any of the structural problems of the PSU bank. However I disagree that Chasing the likes of Vijay Malaya is not part of the solution. This may not be THE solution but certainly is part of the solution. Bringing more transparency into the whole process of granting loan and ensuring its recovery, deserves a re-look at.
I want to share a small but interesting story. I, few months ago, was investing in a commercial property and approached a Public Sector Bank(PSB) for loan. The PSB advised me to take a loan against by deposits(with this bank) then to apply loan against property as they would require to independently evaluate the market value, title etc for this property, at my cost, which will be time consuming.

However when it comes to business men like Malaya, the banks(PSBs) go over board in granting loans and not doing independent valuations of pledges property. This tells me that banks(PSU) suffer from SELECTIVE BAIS. Something to ponder upon.

Regards Manish

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