HDFC Bank: Hold

The economy has been going through one of its most challenging times, growing less than 5 per cent for two consecutive years. The banking sector, a proxy to the growth in the economy, has seen credit growth slow down to a five-year low recently. But banks with strong fundamentals have been able to weather the tide.

Among these is HDFC Bank that has scored well on all parameters — healthy loan growth, good exposure to the retail segment, sufficient capital cushion and minimal bad loans.

However, the stock has gained 33 per cent over the past year, re-rating substantially from 3.1 times the one-year forward book value to about four times now.

This is twice the multiple commanded by peers such as ICICI Bank and Axis Bank and also much higher than the stock’s five-year historical average of 3.4 times.

While HDFC Bank should continue to trade at a premium to its peers, thanks to its well-diversified loan book, better return ratios, and very low loan delinquency, further upsides may be limited in the short term.

Hence, while investors can continue to hold this blue chip stock in their portfolio, fresh buying may be prudent only on significant declines from current levels.

While there are talks of green shoots in the economy, actual recovery, particularly in core sectors, is yet to kick in.

Lending to corporate entities for projects remains muted and a large portion of banks’ lending relates to working capital and trade financing. The loan growth, hence, continues to be led by the retail segment, particularly home loans.

But for HDFC Bank, its loan growth has been driven by the corporate segment rather than the retail space for four consecutive quarters now, in contrast to its peers such as ICICI Bank and Axis Bank.

While HDFC Bank continues to outperform the industry credit growth by a wide margin (6-10 per cent), growth in retail loans has slowed.

The slowdown in the auto segment and the slackness in the commercial vehicle and construction equipment segment have impacted the bank’s retail loan growth.

In the latest September quarter, the bank has grown its retail loans by 17 per cent while corporate lending grew 21.8 per cent.

That said, growth in retail loans did pick up marginally in the September quarter compared with the preceding period; retail loans grew by 14 per cent in the June quarter.

However, it may take a few more quarters for the retail segment to start driving the bank’s overall loan growth as it did in the past.

Despite the faster growth in corporate loans, HDFC Bank’s loan mix has not altered significantly. Retail loans are still more than half the bank’s loan portfolio.

This has helped the bank maintain stable margins. In the September quarter, its net interest margin (NIM) stood at 4.5 per cent marginally up both sequentially and from last year.

A favourable deposit mix with a higher share of low-cost deposits has led to the improvement in NIMs. A strong low-cost current account, savings deposits (CASA) of 43 per cent, should help the bank maintain steady margins.

While rate cuts by the RBI may still be sometime away, banks are flush with liquidity, and not enough credit opportunities in sight. This has already triggered cuts in deposit rates in some banks. HDFC Bank too may think of revising its deposit rates under different tenures.

This may provide enough headroom to tweak its base rate — against which all loans are benchmarked. HDFC Bank currently has the lowest base rate at 10 per cent, along with ICICI Bank and SBI. HDFC Bank’s industry leading margins offer more headroom for lowering the lending rates. This may help boost credit growth.

Aside from healthy return ratios, HDFC Bank has very low loan delinquency too. In the September quarter, the bank’s gross non-performing assets (GNPA) stood at 1.02 per cent of loans — among the lowest in the industry.

Even the bank’s restructured book is just 0.1 per cent of loans, much lower than the 2.5 per cent or so for peers such as ICICI Bank and Axis Bank.

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