Rally in PSU banks to sustain on higher margins, loan surge: Morgan Stanley

Brokerage raises price targets for non-SBI state-owned banks

The Nifty PSU Bank index has gained over 60 per cent year-to-date, even as the Nifty has gained just six per cent. Morgan Stanley believes the rally in state-owned (SoE) banks has more legs to run on.

“SoE banks have done well, and we expect continued strong performance helped by higher margins, sustained loan growth and improving operating leverage over the next few years,” the US-based brokerage has said in a note.

It has raised price targets for SoE Banks by as much as 50 per cent.

The note said that over the past two years, Indian banks have seen sharp moderation in new non-performing loan (NPL) formation. And in recent quarters, this has been followed by a sharp improvement in margins, helped by a rising rate cycle. Higher rates, coupled with retail-funded balance sheets and higher shares of repo-linked loans, has led to upfront margin expansion.

The brokerage expects margins to expand further.

"We expect loan growth to be sustained and credit costs to remain benign over the next few years," the note said.

Acceleration in capex spending is seen sustaining loan growth.

"The capex cycle should, in turn, foster job creation, accelerate income growth, and drive more growth opportunities even in the retail/SME segment. Against this backdrop, we expect the credit cycle to remain benign,” the note said.

Morgan Stanley has raised the price targets of Canara Bank, Bank of Baroda (BOB), Bank of India (BOI) and Punjab National Bank between 13 per cent and 49 per cent.

"Although we think SBI remains the best state-owned bank, we see the potential for notably higher stock returns in BOI and BOB due to much cheaper valuations. We have raised earnings estimates and valuation multiples for non-SBI SoE banks as we expect continued strong cyclical tailwinds," the note said.

On SBI, the brokerage said it has already priced most of these benefits given a better balance sheet and execution over the past two years. Shares of SBI are up 30 per cent year-to-date and are currently trading around their lifetime highs. Meanwhile, shares of other SoE banks are way below their record levels.

"As the cyclical recovery is sustained, we expect benefits to percolate to non-SBI SoE banks as well."