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FED is in a new normal, Reiterate as key top pick

Result Highlights

* Asset quality: Annualized gross slippage ratio for 3QFY22 was 1.3% (Rs 4.42bn), with recoveries and upgrades at Rs 4.91bn

* Margin picture: NIM at 3.27% was up 7 bps QoQ, with management guiding for further scope of 5-10bps improvement on loan mix change

* Asset growth: Advances grew 4.7%/12.1% QoQ/YoY driven sequentially by Business banking loans and Corporate loans

* Opex control: Total opex rose 4.7%/16.0% QoQ/YoY, staff expenses rose 1.9%/10.9% QoQ/YoY and other expenses rose 7.9%/22.2% QoQ/YoY

* Fee income: Commission, Exchange, Brokerage fees rose 12.1%/16.4% QoQ/YoY, implying fee income strategy was working, albeit from a low base

Our view – FED is in a new normal, Reiterate as key top pick

Though gross slippages rose sequentially, they were well-contained in the absolute sense, with underlying stress not worrisome either: It may be noted that FED’s annualized slippage ratio of 1.3% is the best among our coverage banks that have reported so far, including HDFCB at 1.6%. Net slippage, in any case, is in negative zone. Though restructured book at 259 bps of advances looks optically somewhat higher than some key larger private sector peers, it is a relatively safe book. 98% of this book is derived from secured loans, primarily from segments with low LGD for FED. Collection efficiency for this book is 96%, the same as that for the whole bank.

Margin outlook remains healthy with a number of high-yield growth areas lined up: Management stated that FED can grow a key set of high-yield segments in credit cards, personal loans, microfinance and commercial vehicle loans by Rs 75bn in about 2 years. Other secured but relatively high-yield segments which occupy a larger share of book such as business banking and gold loans also have a healthy outlook. Business banking grew 5.2% QoQ. Gold loans has seen a relativeslowdown but management expects this business to bounce back to mid-20s growth in the next financial year. Pricing power returning in commercial banking means that this book is seeing improving yield.

Corporate loan growth bounced back to deliver 6.9% growth QoQ: Corporate lending, when viewed along with non-lending offerings, makes sense for the bank to do. Retail loans growth was 3.3% QoQ driven by business banking.

We maintain ‘Buy’ rating on FED with a revised price target of Rs 130: We value the standalone bank at 1.2x FY23 P/BV for an FY22E/23E/24E RoE profile of 12.2/15.0/16.2%. We assign a value of Rs 7.5 per share to the subsidiaries, on SOTP. We had flagged FED as one our top 3 picks in our sector initiation report dated 30th Jun 2021.

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