Morgan Stanley puts forward a case for raising exposure to Indian bank credit, based on attractive technicals, low capital deficits and fair sector valuations. This is despite the fact that the sector continues to be one of the biggest underperformers in the Asia Pacific region.
The bank has upgraded its sector view from underweight to neutral. It has been underweight Indian bank debt since the beginning of last year, due initially to supply concerns and subsequently to a material deterioration in credit. In early 2011 the pricing differential compared to Korean banks was around 50 basis points (bp), but now that has widened to around 200bp.
“Over the last 18 months indeed the Indian banks really stand out as being the biggest underperformer within the Asian banking space and looking ahead there’s no doubt about it the Indian banks credit fundamentals will continue to deteriorate,” said Desmond Lee, Asia bank credit analyst at Morgan Stanley.
However, he argued that much of the deterioration in credit is already reflected in the price, which is particularly attractive compared with the debt of other Asian banks. He listed three key reasons why he has upgraded his sector view on Indian banks.
“The first reason is technicals. When we talk to investors most of them are already underweight and with very light positioning in the sector,” he said.
“Secondly, yes fundamentals will keep deteriorating but based on our asset quality stress test we think that the bank capital deficit will likely remain less than 1% of GDP. I think that this level of capital deficit is not big enough to cause a systemic problem for the Indian sovereign. Lastly the sector valuations look fair and they are already pricing in the negatives to a big extent.”
He argued that when using a relative value approach and comparing Indian banks to their peers, it is clear that they are trading much wider than lower rated Asian names, such as Indonesian and Philippine banks.
In addition, when compared to the global emerging market ‘BBB’- rated space, they are at the wide end. However, he pointed out that there are also several reasons why he is not overweight on this sector.
“First of all we can’t really be too constructive because we really don’t see any positive fundamental developments in the near term. Secondly, we expect to see a whole slew of new supply from the Indian banks, probably within the tune of three to five billion [US dollars] over the next 12 months and I think this will probably cap the upside in the near term,” he said.
As Asiamoney PLUS has previously reported, Indian banks are expected to be frequent issuers in the US dollar debt market following the State Bank of India’s recent US$1.25 billion deal. This week the export-import bank of India is looking to issue a US$500 million deal.
Moreover, he highlighted the fact that many new issues coming out of other emerging market banks in Turkey, for example, and Russia, are similarly rated or higher rated but are offering more generous coupon levels.
He concluded that overall there are opportunities to be had in the sector but investors need to take a tactical approach.
“We would favour the stronger banks that have much stronger capital levels and provision levels, these would include the private sector banks. We would be avoiding the smaller and weaker public sector banks such as IOB [India Overseas Bank] and IDBI Bank,” he said.