Momentum of growth in retail portfolio strong

HDFC Bank’s third quarter net profit up 20% while net interest margins remained stable

Action: In-line PAT; retail growth momentum improves further

HDFC Bank’s PAT (profit after tax) of R33.6 bn was largely in line with some moderation in PPOP (pre-provision operating profit) growth to 20% y-o-y led by lower fee growth while NIMs (net interest margins) were stable q-o-q. Growth momentum in retail continues to improve (30% y-o-y growth) which is driven by an improvement in some slower growth segments. Asset quality held up well with no impact from the Reserve Bank of India’s (RBI) audit. We maintain our Buy rating with an increased TP of R1,250.

Retail g rowth remains strong: Loan growth of 26% y-oy was driven by 30% y-o-y growth in its retail book. While growth in retail was more broad based, improvement in low growth segments like two-wheelers and commercial vehicles led to higher growth. The asset mix is tur ning favourable with retail share inching up closer to 50% vs 47% in Q3FY15.

Some moderation in PPOP growth due to lower fees: With a pick-up in retail loans, HDFCB’s NIMs marginally improved to 4.3% from 4.2% in 2Q16. Fee growth however, moderated to 11% y-o-y due to lower fees on third party products due to a change in mix. This along with continued investment in capacity expansion led to moderation in PPOP growth to 20% y-o-y.

No red flags on asset quality: Asset quality remained largely stable q-o-q with GNPAs (gross non perfor ming assets) at <1% with management indicating that asset quality in the corporate segment improved in the quarter and there was no impact on GNPAs from the RBI audit. HDFCB did not do any 5:25 refinancing or SDR during the quarter.

Strong traction in retail to support earnings momentum; Maintain Buy We roll forward to Sep-17F with a revised TP of R1,250 which implies 3.5x Sep-17F book of R360. Current valuations at 2.9x Sep17F book look reasonable, in our view given the strong traction in retail which could lead to an ear nings surprise and hence we maintain HDFCB as our top pick within retail private banks. Strong momentum in retail:

Retail growth improved to 30% y-o-y due to improvement in growth in slower growing segments like two-wheelers and CVs. Growth in other retail segments also remained strong but the uptick in growth was led by 25% y-o-y growth in both twowheelers and CV segments. The management indicated that urban retail demand has been strong but some part of the uptick was also led by festive demand and cut in base rates.

Retail mix is tur ning favourable for HDFCB and is now closer to 50% vs 47% in 3Q15. This is supporting NIMs despite cuts in base rates. HDFC Bank bought R12 bn of home loans from HDFC (HDFC IN, Neutral) during Q3FY16. The management explained that uptick in growth in mortgages is because HDFC is retaining 70% of the loans originated vs buying only priority sector loans earlier.

No Red flags on asset quality:

◗ GNPA ratio remained largely flat q-o-q at <1% and the management indicated that there was no increase in NPA (non-performing assets) due to RBI audit. HDFCB had to make additional provision of < R100m towards Essar Steel which it sold to ARC (asset reconstruction company) in 1Q16.

◗ The bank did not do any 5:25 refinancing or SDR during the quarter and indicated that asset quality in wholesale book held up very well and the segments contributing to incremental slippages were agri, business banking, credit cards (this was due to change in NPA recognition by RBI). The bank has not made any floating provision during the quarter. Slower fee g rowth led to PPOP growth moderating to 20% y-o-y:

◗ While NIMs marginally improved to 4.3% (up 10bp q-o-q) due to improving loan mix, fee growth during the quarter moderated to 11% y-o-y which led to some moderation in PPOP growth. While this was partly due to higher base of last year, lower third party fees led to the moderation in fee growth. ◗ The management indicated that third party fees were lower due to change in mix from equity to debt funds while mutual fund volumes held up well. Retail loan fees were also weak during the quarter as the bank offered higher fee waivers due to festive season. Capex growth remains high as the bank continues to invest in expansion

◗ Opex growth run-rate has remained high for three-four quarters now at +20% y-o-y levels. The bank is continuously investing in expansion of branches and digital platfor m which has led to higher growth in opex.

◗ Increased focus on transaction banking has also led to higher opex run-rate. The bank added 8,000 employees during the year which had led to uptick in staff cost, the management indicated. Strong traction in retail to support earnings momentum; Maintain Buy We roll forward to Sep-17F with a revised TP of R1,250 which implies 3.5x Sep-17F book of R360. Current valuations at 2.9x Sep17F book look reasonable given strong traction in retail segment which can lead to ear nings surprise and hence we maintain HDFCB as our top pick within retail private banks.

Risks: (i) A slower-than-expected pick-up in retail credit growth; and (ii) any significant change in underwriting standards of retail loans.