The sharp rally in banking stocks has been attributed to a number of reasons. One of them is that the March quarter results show that most banks have been able to protect their net interest margins.
Another reason is that, with inflation coming down and the rupee at near-nine-year highs, we’re near the top of the interest-rate cycle.
And finally, there is stock-specific news flow. The rise in the State Bank of India scrip, for instance, is at least partly due to a new law that will allow the bank to dilute its stake in subsidiaries, unlocking value. The ICICI Bank Ltd scrip, which had been beaten down after it announced a huge equity dilution, has now recovered all its lost ground. The reason: Media reports that ICICI Holdings—the holding company for ICICI’s insurance and asset management businesses—would be raising around $500 million (Rs2,050 crore) through private placement of a 5% stake. If true, that values ICICI Holdings at $10 billion, well above the valuations estimated by analysts. As a result, the ICICI Bank stock has been re-rated.
Is the surge in bank stocks sustainable? That’s where a comparison of the valuation of Indian banks with those of banks in the region could be useful. According to data from Macquarie Research, the weighted average of price to book value on FY08 estimated earnings for a sample of 12 Indian banks and one financial institution is 1.8, with earnings growth forecast at a high 34.7% for FY08. True, the sample includes some very expensive banks such as Kotak Mahindra Ltd and HDFC Bank Ltd, but many of the public sector banks have low valuations when compared with banks in Asia. Indian banks have a weighted price to book average well below that for Asian banks as a whole, which, says Macquarie, is 2.2 times FY08 earnings. Yet, average EPS growth for Asian banks is estimated at 24.9%, much below the Indian banks. Average return on equity for Asian banks too is on average lower than for Indian banks. Banks in China, Indonesia, Malaysia, Singapore and the Philippines all have average price-to-book ratios higher than those for Indian banks. With banks being plays on the economy, the 8%-plus GDP growth outlook for India should translate into higher bank valuations.
Dr Reddy’s Labs
The Dr Reddy’s Laboratories Ltd stock has drifted steadily downwards, because the market regards the positive news from the company as temporary, while it factored in the negative news, such as increasing pricing pressure in Germany, which would impact Betapharm, acquired in an expensive deal last year. Most analysts had pencilled in a sharp decline in earnings in FY08, as the impact of the one-off positives, such as the 180-day exclusivity in the US for Ondansetron, the generic version of anti-nausea drug Zofran, wore off. More recently, there was disappointment as a US court upheld the Aciphex patent, in which Teva and Dr Reddy’s were the first to file. Seen in that light, the March quarter results are encouraging. The growth rates for the API business as well as for contract manufacturing have been higher than expected.
Analysts say the good news on Betapaharm is that Dr Reddy’s should be able to transfer the manufacturing of about 10 products to India by the end of the current fiscal, thus being able to offset some of the pricing pressure in the German market. Add that to good volume growth and it could result in some light at the end of the tunnel that the Dr Reddy’s stock has got into.
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