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Federal Bank reported nearly in-line PPoP, led by better fees/treasury gains. However, it hit an MFI bump (as seen across banks) and hence saw higher provisions, leading to an 11% PAT miss to Rs8.6bn/1% RoA. Credit growth slowed to 9% YoY in Q1, and the bank now guides for 1.2x nominal GDP growth as it focuses on managing risks/margins. That said, the bank claims that its transformation process is going full throttle, to reorient the asset portfolio mix toward better-yielding loans, including retail/SME and a structurally improved CASA profile (as reflected in Q1) which would lead to better margins/RoA in the long run. The bank expects gold loan growth to accelerate following the recent PSL guidelines, which should drive-up PSLC fees and thus overall fee growth. Factoring in the Q1 earnings miss and slower growth/higher LLP, we trim earnings estimates over FY26-28E by 9-11%. However, we retain BUY with a TP of Rs240 (based on 1.3x Jun-27E ABV and subsidiary’s valuation at Rs12/sh), factoring in healthy improvement in RoA to 1.2-1.3% over FY27-28E, credible management among SMID banks, and reasonable valuations.

Soft growth in Q1; strategic transformation going full throttle Federal Bank reported slower credit growth of 9% YoY/3% QoQ, mainly led by moderation in unsecured loans and low-yielding home/corporate loans. After the recent favorable PSL guidelines, the bank expects gold loan growth to accelerate, which should support its risk-calibrated growth strategy and PSLC fees. Despite trimming the SA rate to 2.5%, the bank sustained the CASA ratio at 30%, unlike peers. NIM declined by 18bps QoQ to 2.9% due to low loan yields (faster asset re-pricing as it follows a T+1 rate reset and interest reversals on NPAs (4-5bps). The bank cut its credit growth guidance to 1.2x of nominal GDP growth, with NIMs to contract further by 5-10bps; the bank expects improvement as deposit repricing benefits kick in. The management assured that its strategic transformation plan is going full throttle to reorient the asset portfolio toward better yielding loans, an improving CASA profile (mainly CA) and fees, thereby leading to a higher and sustainable RoA.

Higher MFI stress comes to hurt back in Q1 Gross slippages were elevated at Rs6.6bn/1.2% of loans, mainly due to higher MFI stress (including Karnataka portfolio) and slightly higher BB/CV stress, and a resultant 7bps/4bps QoQ rise in GNPA/NNPA ratio to 1.9%/0.5%. The management expects MFI slippages to moderate in Q2; however, it does not see any meaningful stress in the retail portfolio to raise alarm. That said, it would prefer to remain watchful. The bank guided for 55bps credit cost in FY26 vs 30bps in FY25.

We retain BUY on the stock We like the new MD’s stance of adopting a calibrated growth approach, with focus on delivering healthy and sustainable RaRoC – a long unresolved conundrum for the bank and, thus, calls for management premium. We retain BUY with a TP of Rs240. Key risks: Slower-than-expected growth/margins/fees and fresh NPA risks in the SME portfolio, given macro deterioration.

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