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00:00 Hello and welcome to BQ Prime.
00:06 You're joining us on the second day of the India Investor Summit by J.P. Morgan.
00:11 We have with us Sourav Kumar, Senior Analyst for Banks in India for J.P. Morgan.
00:16 Welcome, firstly, Sourav.
00:17 I wanted to start this conversation with the theme of what is happening with banks in India.
00:24 At this point of time, everything seems to be so great and hopeful.
00:30 But how are you seeing the sector at this stage?
00:33 Thank you for having me. I think from where we see the sector, you will get basically very steady compounding in returns.
00:42 Effectively, you are in an environment where credit risk at this point of time is low.
00:48 There is higher competitive activity between banks, non-banks, capital availability is good.
00:55 And what we have is that the banking sector, rather than being a headwind, is now being a tailwind for the economy.
01:04 In such an environment, you may be margins will compress because of competition depository pricing.
01:10 But part of that gets offset against the credit cost.
01:14 So effectively, what you as investors, you can get basically a return on equity, which should be at normalized levels of maybe 15 to 18 percent depending on the bank.
01:24 And you will get very steady book value growth, very difficult to argue for re-rating from current levels across major private banks.
01:31 So you should expect compounding, not re-rating.
01:35 But there is no big risk on the horizon, which is very worrying, except for some pieces of the unsecured credit.
01:42 But that's broadly the view in such an environment.
01:45 Typically, your large cap banks tend to relatively underperform versus mid caps in the public sector bank, which is what is happening.
01:51 It's very expected at this stage of the cycle.
01:53 OK, fair enough. Let me break these points up and ask you individually.
01:58 But this public versus private debate that's been going on, you know, after a long period of slow middling growth,
02:06 you've got you've seen the public sector bank system come back into the growth cycle.
02:10 You can see it in the way the market is. But I wanted to ask you, is this euphoria warranted or is there still something you need to watch out for as far as the public sector banks are concerned?
02:20 So I think from a, I want to call it euphoria because valuations across public sector banks have still not taken out, you know, maybe the pre-2015 averages.
02:31 So once they take out materially, we'll probably start to wonder.
02:35 But at this point of time, I think it's just valuation catch up from extremely depressed levels to, I would say, near fair levels.
02:45 For public sector banks, what's really helping them is the corporate asset quality, that the corporate asset quality in India continues to be good.
02:51 So your net credit costs across PSU banks, if you look at SBI, Bank of Baroda, Punjab National Bank, they continue to kind of surprise positively.
03:02 And that's helping their earnings.
03:05 So effectively, if you look at public sector banks, the return on equity gap to private banks has collapsed and the growth gap is collapsing.
03:13 And hence, we think at some point the valuation gap will also start to catch up, which is where we are seeing that the PSU banks at 5p odd are kind of trying to close the gap to private banks and trade at between 13 to 15 times earnings.
03:28 In terms of the private banking scenario at this point in time, you've seen the top five sort of, you know, really outperform the rest of the pack.
03:38 But what are you seeing there in terms of future growth potential?
03:42 Because you said the larger guys will sort of see underperformance compared to the others.
03:49 So that's what's happening, I think, at this point of time.
03:51 So either that we get some event on the credit side, which basically again gets the markets focused on the larger cap guys.
03:57 But what we're seeing is as the credit growth is broad basing in the economy, which is good for the economy, good for the country.
04:02 But as growth is broad basing, AQ risk is generally contained, barring some pockets of unsecured.
04:09 You will naturally expect a smaller bank, smaller balance sheet to grow faster than a larger bank, larger balance sheet.
04:17 And in this environment, market, rightly or wrongly, will typically chase growth over asset quality at this stage of the cycle.
04:24 So you will see with larger banks, you will get basically book value growth with some of the more mid cap banks, PSU banks.
04:33 Given that absolute valuations, there could be scope of both book value growth and summary rating.
04:38 OK, I want to touch upon the growth aspect a little bit because the dry part of it is the deposit liability side of the business.
04:48 So that seems to be growing pretty slow compared to your credit side of the story.
04:52 But how long can the system sustain this difference?
04:56 Yeah, so over a cycle, it doesn't sustain actually. So over a cycle, if you take out 15, 20 year data, deposit growth equates to credit growth.
05:03 Eventually, both have to converge. What we just saw last year was maybe before that deposit growth was higher,
05:10 it kind of came off and credit growth compensated on that account.
05:14 But I would say that, yes, that is the only constraint and that is where we need to watch the liquidity, how macro group and all behave.
05:22 But at this point of time, if you look at the macro data coming from or at least the system data,
05:27 the credit growth in India is running at about 14 and a half. The expectation is about 30 not.
05:32 So the start is actually better than what people would have thought at the start of March.
05:37 So it's doing slightly better. But yes, I mean, that's the risk. We not a risk, but that's something we need to watch out.
05:44 I would also point on this deposit thing is if you look at at the system level, the credit deposit ratio is actually OK.
05:50 OK, it's just that the liquidity is probably asymmetrically distributed between public sector banks,
05:56 which are sitting on excess cash or excess liquidity and private banks where the CD ratios are tighter.
06:02 OK, and how do you think this is going to play out in terms of when you're selecting winners from the losers sort of pack,
06:10 the tighter CD ratios will eventually play into the fact that they all are sitting on higher cost.
06:15 Right. Yeah. So, yeah, you will have to basically assume margins for your large private banks will continue to compress
06:23 given the credit deposit ratios, tighter liquidity and the fact that there is going to be higher competition,
06:30 especially from the public sector banks and margins. So margins will tail off for the larger banks.
06:37 You should not expect high margins with high credit growth. That's not possible.
06:41 So margins will tail off, but hopefully there will be leverage on both loan growth and credit costs.
06:46 OK. On the asset quality front now, yes, there is very less stress or worry in terms of the asset quality picture.
06:54 But the common idea or thought process is that all mistakes are made in the good times.
07:01 So underwriting wise, how are banks based?
07:06 So I think on the corporate side, there are a lot of lessons learned.
07:09 Yeah, thankfully. And hopefully we'll not see a cycle there for some probably a long period of time, hopefully.
07:16 I think the real worry right now is on the unsecured side, which is retail growth.
07:21 And within retail, if you dissect property prices have finally started to rise.
07:25 So maybe on the secured side, you're broadly OK.
07:29 It's really on the unsecured side where growth has been faster and we really need to watch.
07:34 India has not really had any unsecured cycle barring for a brief period during global financial crisis and during COVID.
07:42 So we've never seen a very long unsecured cycle ever.
07:45 These loans as a percentage of the system are also not very high at this point of time.
07:49 So, yes, there could be something. So you're right.
07:52 Maybe we see something happen in 2024, early 25, which is why we're seeing rightly so from the regulator,
08:00 some directive or at least some direction that slow down the growth or at least improve the risk checks.
08:08 So I think people are more conscious of this.
08:11 I think what we also need to recognize about the unsecured market is the data is much better.
08:17 Most of these banks internally would be seeing almost weekly or daily how the bounce rates are working.
08:23 You get now reports from several trans-Union, several because of the credit bureau.
08:27 I think markets ability to recognize the stress is also going to be relatively better off because the data availability is there.
08:33 So I would certainly expect the current very low credit costs, which are below normal, would inch up into next year.
08:41 But I don't think we will ever go back to the 2017, 18, 19 period.
08:45 That's probably because of the average ticket size being lower.
08:48 Yeah, average ticket size being lower. Retail in general over a cycle has behaved way better than Congress.
08:55 OK, you and I tend to pay off our loans.
08:59 No, for sure. But you just look at the household liabilities versus savings side.
09:05 So there are the stories showing that people are actually leveraging themselves higher than the amount of money that they're saving.
09:12 Yeah, when we expect this to be short term phenomenon. But yeah, but that is not something that is worrying.
09:17 Not at this point of time, because if you look at the household leverage in India, about 35, 36 percent, it's much lower.
09:25 Even when you look at the Reserve Bank data on sectoral deployment of credit growth,
09:30 you are looking at personal loans, which are maybe rising at mid-teen levels.
09:33 Yeah. So, yes, there are pockets of NBSC where the growth is higher,
09:38 but it doesn't look to be very, very systemically huge at this point of time.
09:43 And if this continues, then obviously we'll worry.
09:45 But I would certainly expect some slowdown in this market into next year, one is a base just catches up.
09:52 The second is, I think you will probably see some delinquencies come up.
09:56 The market will try to pull back on some of these things.
10:00 A couple of questions on the regulations and then we'll wrap it up.
10:03 But the question with regard to the RBI's approach on investment and classification of those investments,
10:10 the norms that have come out, you know, some people are saying there's more of the same that existed,
10:15 but the others seem to suggest that you've got lower volatility on the profitability because of the investment,
10:21 the way the investments are classified. That's changed. What's your view?
10:25 So I think whatever helps the market get a better view on the investment side,
10:33 the potential unrecognized gains and losses on the outbook, be it available for sale,
10:38 hold to maturity, fair value through profit and loss always helps.
10:44 Sunlight is always a good thing. So I would say that that's what broadly the regulatory intent is,
10:49 that you try to disclose as much of these, how these valuations are reflected on the bank's balance sheet
10:58 and what are the potential gains or losses.
11:01 And we have seen some impact of that in the US early part of the year.
11:05 So I would say it's actually good.
11:08 What the regulatory intent is basically to kind of help market understand better,
11:15 basically where these investments are on bank balance sheet versus where the fair value resides.
11:21 So I would broadly take it as a positive and it is the right point of the cycle to do it because banks' capital is good.
11:27 Any transition that the regulator needs to make towards international norms,
11:31 probably we are at the right stage of the cycle to do that.
11:34 OK. Lastly, this question is with regard to the non-bank part of the picture.
11:39 So the guidelines that the FBI has for regulating non-banks, the four-tier structure that they've announced,
11:45 so that's at some level incentivizing NBFCs to maybe graduate, to become banks.
11:50 They haven't really issued bank licenses because we've seen one mega merger.
11:54 But other than that, nothing really moved from that front.
11:56 But do you think that this inclusion or this graduation from NBFCs to banks,
12:01 that that is going to expand the pool, probably benefit the system as well?
12:06 So I think we have had examples of large NBFCs being there, HDFC and Now Bajaj.
12:12 It's a very tricky discussion of whether you should allow corporate into bank sector,
12:20 which my view is that we probably, there should be one non-conscious if you want to go down that route,
12:26 and best not to go down that route.
12:28 OK.
12:28 But I would say that there is enough capital in the system for these NBFCs to do what they're doing.
12:35 We are very early stage in terms of their loan book size versus large banks to worry about at this point of time.
12:42 Eventually, yes.
12:43 So what we have seen with Reserve Bank is a scale-based regulatory model.
12:48 If you look at the upper tier NBFCs, the relative valuation,
12:52 regulatory gap versus banks don't exist in any meaningful manner at this point of time.
12:57 So except for the deposit piece, there is nothing which is missing at this point on the upper tier NBFCs,
13:05 which is where the large NBFCs reside.
13:07 So, so, yeah, I mean,
13:10 Is it big enough for them to take the banking plunge?
13:14 So,
13:15 Assuming that they don't have the corporate backing.
13:17 OK, so,
13:20 so banking does expand your addressable market,
13:25 but it also is a huge cost for, or is a huge responsibility,
13:32 both for the regulator and you as a bank owner, because you're taking public deposits.
13:37 So the shareholder is subservient to the depositor and obviously the regulator.
13:42 So that is why there has to be a lot of precautions in place before you give a banking license out to anyone.
13:49 So I would say that, yes, I mean, and it's not an easy conversion.
13:53 We already seen with the HDFC Limited being converted to bank, it does take a toll in terms of deposits and all.
13:59 So it's not going to be very easy for them to convert.
14:02 And finally, from a valuation point of view,
14:05 you're clearly seeing some of the best run non-banks actually traded premiums to the banks.
14:10 So the non-bank structure allows you to work with higher growth,
14:15 have less regulatory pressures, at least on your liquidity or whatever,
14:19 deposits, and you can attract a better multiple from the market.
14:23 So I can't imagine why anybody will chase a bank license at this stage of the cycle.
14:28 All right. Thank you so much, sir, for joining us.
14:30 Thank you.
14:30 Let's talk later. Bye.
14:33 OK. Thank you. Yeah.
14:37 Thank you.
14:50 Thank you.