Private Banks Face Growth Challenges, Says Emkay Report

Private banks, once considered growth engines for loans, revenues, profits, and book value per share (BVPS), are now facing significant challenges, according to a new Emkay report.

The report, titled “Waiting for Godot – The Elusive Turnaround,” highlights that the intrinsic value of private banks has dropped by 4-63% over the last decade. This decline is due to lower growth and moderating returns on equity (ROEs). Some leading banks, including HDFC Bank, Kotak Mahindra Bank, and IndusInd Bank, have seen their value nearly halve because of weakened fundamentals. Emkay predicts that the valuation range for private banks will settle at 1.5-1.7x price-to-book value (P/BV) over time.

Several factors contribute to this downturn. Extreme risk aversion among corporate borrowers and lenders has reduced demand for wholesale loans, a trend worsened by the credit cycle between 2015 and 2020. Additionally, many corporates are now using the bond market, reducing opportunities for private banks to lend.

Competition from public sector banks (PSUs) has also increased post-Covid, making it harder for private banks to gain market share. Liquidity constraints and concerns over retail asset quality further add to the difficulties for private banks.

For PSU banks, growth has slowed, and there is limited potential for revaluation as their ROEs are at risk from the need to raise capital. Emkay sees no clear preference between private banks and PSUs at this time.

Regulatory pressures from the Reserve Bank of India (RBI) have intensified, aiming to curb retail credit build-up and address challenges from the rapid growth of digital payments. While this is positive for systemic stability, it poses growth challenges for banks, particularly in profitable segments like unsecured retail loans.

In response to these changes, Emkay suggests a bottom-up approach for selecting stocks, focusing on intrinsic value mismatches, turnarounds, and earnings momentum. They advise against relying on historical valuation metrics. Consequently, the weightage of financials in their model portfolio has been reduced to 15% from 30%, with significant cuts in major banks like HDFC Bank, ICICI Bank, and State Bank of India (SBI).