All around HDFC Bank, India’s largest lender by market value, the news seems to be bad and getting worse: economic growth is slowing, loan losses are rising and shadow banks are mired in crisis.
Yet investors continue to invest in shares of HDFC Bank, confident that it will emerge a winner from India’s financial woes. The company’s market value has jumped $21 billion in the past year, more than any other bank in the world. Among the 25 largest global lenders, no other stock fetches a higher price relative to earnings or net assets.
The bulls say they have good reason to be optimistic: HDFC Bank will grab market share from embattled ghost lenders and benefit from a flight to quality by investors wary of smaller competitors. While skeptics say the bank is vulnerable to India’s economic challenges – pointing to its large exposure to consumer loans and the impending retirement of its longtime leader – even they say betting against HDFC Bank is risky. Of the 54 analysts covering the stock, only one has the equivalent of a sell rating.
“The business continues to perform very well,” said Nick Payne, head of global emerging markets in London at Merian Global Investors (UK), which oversees around $33 billion and increased its holdings of HDFC Bank shares. “Strong banks and franchises tend to get stronger when times are tough, while weaker ones fall by the wayside.”
“ Back to recommendation stories
Indian shadow banks, until recently a growing competitive threat to HDFC Bank and its peers, have been reeling since the second half of 2018 when a company in the Infrastructure Leasing & Financial Services group defaulted on its debt and triggered an industry-wide credit crunch. Mortgage lender Dewan Housing Finance Corp has missed debt payments since June, while companies such as Reliance Capital and Piramal Capital & Housing Finance have seen their credit ratings reduced due to liquidity problems.
The turmoil came amid five consecutive quarters of slowing economic growth, the highest unemployment rate in 45 years and forecasts that bad debts at Indian banks will hit a record 12% in early this year. next year.
All the while, HDFC Bank’s share price rose. Now valued at around $92 billion, the company is trading for 24 times expected earnings over the next 12 months. That’s almost three times the price of the Bloomberg World Bank Index, a hair’s breadth from the biggest valuation premium on record. The company’s price-to-book ratio of 4.3 compares to 1.5 at JPMorgan Chase & Co., the largest U.S. lender by market capitalization.
Not everyone is convinced that the outsized gains will continue. Sanford C. Bernstein & Co. analyst Gautam Chhugani downgraded HDFC Bank to market performance on Sept. 9. He cited succession risks around the planned departure next year of Aditya Puri, who has led the company since 1994, as well as the potential for deterioration in asset quality in the $4.43 trillion retail loan portfolio. rupees ($62.5 billion) from the bank.
While HDFC Bank said loan losses in its retail business were stable and in line with expectations, that could change if economic growth and employment trends in India continue to deteriorate.
Retail credit costs are unlikely to “remain benign over the medium term,” Chhugani said.
HDFC Bank did not respond to a request for comment.
Optimists are reassured by the company’s nearly unmatched track record of controlling loan losses through multiple economic cycles. HDFC Bank’s book value per share has grown at a compound annual rate of more than 20% over the past decade, while its gross non-performing loan ratio of 1.4% at the end of June was the lowest among his Indian peers.
HDFC Bank is expected to post “strong” earnings growth and stable asset quality for the quarter ending September, Bloomberg Intelligence analyst Diksha Gera wrote in a report on Friday. As shadow lenders entrench themselves, the bank will gain market share, said Ross Cameron, head of Northcape Capital’s Japan office. It should also be boosted by a recently announced reduction in the corporate tax rate in India.
“HDFC Bank’s share price is supported by its strong earnings growth, which has proven quite resilient so far” to headwinds in the Indian economy, said Will Malcolm, fund manager for the Emerging Markets Equities at Aviva Investors Asia Pte. He called the action a “main stake”.
“Nothing lasts forever and we expect volatility in the market,” said Kristy Fong, director of Asian equity investments at Aberdeen Standard Investments in Singapore. “HDFC Bank, however, should continue to be a long-term compounder.”