State Bank of India (SBI): Important report from Morgan Stanley - this is what it says

State Bank of India (SBI) has much option value; both in earnings (1% Rod) and multiples. Morgan Stanley bull case scenario >100% upside) reflects this. SBI retail franchise has improved, and the corporate cycle is turning Morgan Stanley see material upside risk. Morgan Stanley raised SBI share price target to Rs 600; they now apply a 25% bull case weight to the core.

The macro backdrop for banks is increasingly looking like early 2000s:

Morgan Stanley thinks SBI looks best placed in the current cycle. Morgan Stanley’s macro team expects a virtuous growth cycle in India and has further raised its GDP growth estimates for F22,23. This reminds of the economic backdrop for banks in the early 2000s where banks had gone through a deep NPL cycle and a fall in bond yields helped recapitalize balance sheets. Thereafter, as the macro cycle turned, banks did very well on earnings and re-rated sharply. While private banks did well through the cycle, SoE banks outperformed significantly in the initial years.

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In Morgan Stanley’s bull case, they build in >1% RoA for SBI

As the macro cycle turns, Morgan Stanley sees upside risk to earnings from three sources:

1) higher margins as excess liquidity decreases and rates move higher
2) lower cost to income ratio — the wage hike cycle has ended, and the rate cycle is turning, which could drive slower cost growth
3) lower credit costs, helped by moderation in corporate NPLs and lumpy recoveries

Against this backdrop, valuation has significant upside in SBI:

SBI has built a strong retail fran-chise and also sustained its deposit market share. Even on digitization, the progress has sur-prised, unlike peer SoE banks. As the corporate cycle turns, Morgan Stanley expects earnings estimate upgrades and significant re-rating. In fact, SBI reminds us of China Merchants Bank (a well-run bank promoted by the state), which has shown sustained improvement in its retail franchise compared to China's SoE banks and hence achieved better profitability thereby widening valuation differential. Though there are significant differences between CMB and SBI, we believe SBI could show a similar re-rating trend vs. Indian SoE banks.

In Morgan Stanley’s bull case, they assume >196 RoA in F22,23 and 1.6x F23e P/BV. This drives bull case SOTP value of Rs 765 (including base case subs valuation of Rs 160) implying 90% upside.
Morgan Stanley now apply a 25% probability to the above scenario in valuing the core bank thereby raising SBI price target to Rs 600.