Banks: Lost the 'Midas' touch! - Views on News from Equitymaster

Helping You Build Wealth With Honest Research
Since 1996. Try Now

  • MyStocks

MEMBER'S LOGINX

     
Login Failure
   
     
   
     
 
 
 
(Please do not use this option on a public machine)
 
     
 
 
 
  Sign Up | Forgot Password?  

Banks: Lost the 'Midas' touch!

Oct 7, 2005

As the indices continued to defy the laws of gravity until a couple of days back, certain select sectors made hay. Banking stocks were amongst those that stole significant limelight, as they remained the least affected by rising crude prices. Benign inflation, surplus liquidity and relatively softer interest rates also kept sentiments buoyant towards the sector. Not to mention, the government and the RBI's renewed focus on reforms for the financial (read banking) sector, also aided the momentum. Resultantly, the sector that was under performing the Sensex over the past few quarters, caught up to the investor fancy. Will banks deliver?
Although markets have already factored in most of the potential upsides into the prices of most banking stocks, what remains to be seen is whether these entities can deliver what the markets expect of them. While we do not deny that the fortunes of the sector have certainly improved, we find it pertinent to highlight some deterrents that may defer some of the deliverables (be it in terms of growth or countering competition).

Market share: Separating the men from the boys
27 PSU banks, 25 private banks, 30 foreign banks and a host of cooperative and regional rural banks cater to the banking populace in the country. The fact that top 7 banks account for 57% of the market share suggests that several smaller players occupy the remaining 43%. Thus, it goes without saying that it's the bigger players that enjoy the economies of scale and access to top tier customers.

On the other hand, the smaller banks get handicapped due to sheer lack of size (including capital) and scale. This deficiency compels them to compromise on margins as well as asset quality. Nevertheless, the apex bank (Reserve Bank of India (RBI)) has now given an ultimatum to the weaker entities to acquire the requisite size prior to FY09. The success of the consolidation drive in the banking sector (which the government and the RBI alike are struggling to trigger), will thus determine the survival of the smaller entities. Not to mention, the larger entities also need to consolidate their positions to safeguard their shares from foreign encroachment. They must therefore look for 'suitable matches' to complement their strengths.

Pricing pressure: Squeezing margins
As banking gets commoditised by the day, with more and more players trying to lure customers at attractive prices (lower cost of advances), banks have also been compromising on their yields. Although the same are not comparable to those existent during the high interest rate regime (late 90's), banks have also been victimized by the 'AAA' corporates arm-twisting them for sub-PLR rates. Several banks (including those in the top league) have witnessed severe erosion of net interest margins over the last couple of years due to re-pricing of assets. The same if not countered with marginalisation in cost of funds will pose a serious threat to these entities.

Yield on advances (%)
Banks FY04 FY05 Increase/(Decrease)
HDFC Bank 7.5 7.7 0.2
Corporation Bank 7.6 7.7 0.1
Canara Bank 3.5 3.6 0.1
Bank of Baroda 3.6 3.5 (0.1)
Allahabad Bank 4 3.7 (0.3)
SBI 7.6 7.2 (0.4)
OBC 9 8 (1.0)
UTI Bank 9.3 7.8 (1.5)
ICICI Bank 9.7 7.4 (2.3)

Treasury: Not a cakewalk anymore!
When the soft interest rates prevailed, banks had to do little over investing their funds in G-Secs and bonds. This was all that was required of them to post attractive treasury profits and register strong bottomline growths. In such a scenario, they neither had to bother about credit growth nor about efficiency levels. However, with the tables now having turned, banks need to concentrate on their 'core banking' operation for which they need to also upgrade their risk mitigation skills and enhance non-fund based (fee income generating) activities. Also, to keep their treasury operations well hedged, banks need to transfer a substantial proportion of investments to the HTM (held to maturity) category (thus taking mark to market losses) as well as keep the duration of assets low.

What to expect?
Given this scenario, the rationale behind according unprecedented valuations to the sector seems unreasonable. This is because, most of the potential upsides being already factored into prices, investors can expect little upside. While we do not deny that some of the larger players in the sector will continue to outperform market expectations, investors also need to take a look at the valuations. Or should we say that banks that looked very attractive at a certain point in the past have now lost their 'Midas touch'?


Equitymaster requests your view! Post a comment on "Banks: Lost the 'Midas' touch!". Click here!

  

More Views on News

What Do the Charts Say About Buying Smallcaps Now? (Fast Profits Daily)

Sep 18, 2020

Everyone seems to be excited about buying smallcaps now...but is it the right thing to do? What do the charts tell us? Find out in this video...

Sundaram Bluechip Fund: Will Hold the Stable Horses (Outside View)

Sep 18, 2020

PersonalFn briefly outlines the newly launched NFO note HSBC Corporate Bond Fund.

Wait! Don't Chase Smallcaps Now (Profit Hunter)

Sep 18, 2020

Let the markets take a breather before you jump in.

How Much Money Do You Need to Be a Professional Trader? (Fast Profits Daily)

Sep 17, 2020

In this video I'll answer a question I get asked often: How much capital do I really need to trade the markets for a living? Let's find out...

A Contrarian View on Whether You Should Load Up on Small Caps podcast (Views On News)

Sep 17, 2020

Rahul Shah discusses whether the SEBI circular is the perfect time to start investing in good quality small caps

More Views on News

Most Popular

How the 8-Year Cycle Can Help Identify Multibaggers (Fast Profits Daily)

Sep 11, 2020

This is how you can apply the greed and fear cycle in the market to pick stocks.

Why am I Recommending Caution? (Fast Profits Daily)

Sep 9, 2020

This is why I have changed my short-term view on the market.

This Could Be the Best September for Auto Stocks (Profit Hunter)

Sep 11, 2020

Here's why I think this month could be a great for auto stocks.

Why We Picked This Small-cap Stock for Our Hidden Treasure Subscribers (Profit Hunter)

Sep 17, 2020

This leading household brand will profit big time in a post covid world.

More

Covid-19 Proof
Multibagger Stocks

Covid19 Proof Multibaggers
Get this special report, authored by Equitymaster's top analysts now!
We will never sell or rent your email id.
Please read our Terms

S&P BSE SENSEX


Sep 18, 2020 (Close)

MARKET STATS