Ability of smaller banks to withstand coronavirus shock key for investors

There is no doubt that the negative impact of coronavirus in all sectors would have repercussions on the banking sector, in terms of asset quality, higher cost of credit and growth. However, the street seems to have even less confidence in the smaller banks (small and medium) if the recent underperformance of their stocks compared to the big banks is to be expected. The Federal Bank, DCB Bank and RBL Bank, among others, have lost up to 59% in the last 10 trading sessions, compared to a 30% drop in the Nifty Bank index over the same period.

First, with uncertainty about the duration of the pain caused by coronaviruses and its impact on the global economy, the ability of small banks to withstand shock has become a key for investors.

Krishnan ASV, Senior Analyst at SBICAP Securities, says: “Large, large-cap banks with strong deposit franchise have a greater ability to absorb the shock of economic growth, which investors are looking for in light of the current situation . ” In fact, an episode similar to a moratorium in a private sector bank is often followed by a temporary confidence crisis for depositors from other private banks, which requires a multitude of confidence-building measures on the part of policy makers and other stakeholders, said Krishnan, adding that banks collectively investing in YES Bank was one such measure.

That said, delisting YES Bank Level 1 bonds would make fundraising difficult, especially for small private banks.

Second, according to Dolat Capital analysts, in addition to growth and asset quality issues, high exposure to small and medium-sized enterprises (SMEs) has resulted in a correction in medium-sized banks. The SME sector is expected to be more vulnerable to the current crisis, as foreclosure could wipe out a significant portion of their cash flow in the short term. Lenders like Bandhan Bank and RBL Bank also have a high segmental concentration in microcredit and personal loans, respectively, which could put pressure on job losses or lower wages, analysts said.

Finally, although the guaranteed loan books of many small private banks indicate good recoveries in the event of default, valuations are an obstacle. After the sharp correction, large and solid banks like HDFC Bank and ICICI Bank are available at a reasonable valuation of 2-3 times the book value at 12 months; it is about 1-2 times for small private banks. “Purchase interest is likely to be limited (for medium / small banks) when large private banks are available at a significant discount,” Dolat Capital analysts said in a report.

In this context, it is recommended that investors stay away from small private banks until the situation improves, selected stocks like the Federal Bank could be a good option for bottom fishing.

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