ICICI Bank, HDFC Bank and Axis Bank: Morgan Stanley says Large Private Banks are entering Golden Age – Next leg of Rerating Cycle

Large private banks have emerged stronger post crisis, balance sheets are strongest ever, and growth/market share is accelerating. Expect RoAs to near/cross previous peaks, which will drive multiples much above long-term averages. Morgan Stanley now factor this in their price targets and see 30-40% upside.

Large private banks: Strong re-rating to drive the next leg of returns; Morgan Stanley price targets are 20-30% above consensus:

The debate in India banks has quickly shifted from impaired loans to growth. High-frequency indicators have stayed strong, and we expect ongoing growth momentum. Stocks have done well over the past week to three months and are likely pricing in some growth recovery. Investors have asked if the returns could moderate from here. Morgan Stanley remain positive as growth momentum is strong, and believe the next leg of returns will be driven by valuation re-rating to much above-average valuations. During the last growth upcycle (F2004-07), Bankex/large private banks returned >300- 500%.

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Large private banks have emerged stronger in COVID-19:

Morgan Stanley argues that balance sheets at large private banks are among the strongest ever post any crisis, they have strong capital ratios, high non-specific loan provisions and significant liquidity. Loan growth has surprised positively, led by large private banks, which had >70% incremental market share during 9M FY21. As the economy improves, we expect to see significant earnings acceleration.
Return ratios to reach or cross previous cycle peaks:

Large private banks have seen strong improvement in profitability in recent years,helped:

1) higher loan spreads
2) lower cost:income ratios
3) lower RWA densities
4) lower tax rates.

Cyclically, margins will improve, helped by the interest rate cycle, lower excess liquidity and better cost:income ratios. This will drive RoAs to near or above peak levels. Leverage is still much lower vs history, and that implies continued improvement in RoE as loan growth continues.

Brace for above-cycle-average valuations; building in 30-40% upside:

Morgan Stanley raised their price targets to factor in 10-15% above-mean valuations at HDFC Bank and Axis Bank. ICICI Bank's valuation is well above mean levels given significantly higher profitability compared to history. A combination of valuation re-rating (from current average multiples) and strong earnings compounding drives 30-40% upside for the group. Morgan Stanley top picks are ICICI Bank, HDFC Bank and Axis Bank. IndusInd Bank should also benefit from the cyclical tailwinds. Morgan Stanley reduces bear-case weighting and raises price targets.