The Federal Bank stock has corrected close to 26 percent year-to-date, under performing the Nifty (gains of 2 percent) and Bank Nifty (gains of 3 percent). However, there are several opportunities that deserve attention like the undemanding valuation at 1.1 times FY20 estimated book.
Asset quality pain: End in sight
Despite concerns over higher asset quality pain due to the Kerala floods (its key market), the same has been well contained so far. Going by the management's recent guidance, slippage in H2 FY19 is going to be much lower. Credit cost has fallen to 64 basis points (100 bps = 1 percentage point) in Q2 and the management is guiding at 70 bps of credit cost for FY19. The bank’s total stressed portfolio (standard restructured, security receipts and net NPA) stands steady at 2 percent of advances. Incidentally, the bank has no exposure to cash-strapped IL&FS.
Business picking up with a de-risking strategy
The bank is gradually reducing its corporate exposure and targets to have a balanced mix of retail, SME and corporate. It has stepped up hiring in the sales team and has been growing its high rated exposure – 71 percent of outstanding wholesale credit is rated 'A' and above.
In the year gone by, Federal Bank’s share in incremental credit and deposit of the system stood at close to 2.2 percent and 2 percent, respectively, which is much higher than its absolute share at 1.1 percent and 1 percent, respectively, thereby exhibiting success in its efforts to gain market share.
Given the opportunity presented by the weak state of public sector banks and funding challenges of non-banking financial companies (NBFCs), the bank is targeting 20-25 percent credit growth going forward.
Profitability set to look up
Falling cost of deposits has helped Federal Bank maintain its interest margin. At present, 96 percent of the deposits are retail. While low cost current and savings account has stagnated in recent times, the contribution from non-resident rupee (NRE) deposits remain meaningful.
The bank is mindful of the need to step-up CASA and has identified it as a focused strategy. For FY19, it is targeting a CASA of close to 34.5 percent from 33.9 percent at present.
Federal Bank is taking initiatives to counter falling yields in the corporate book by foraying into relatively high margin businesses like unsecured retail credit and commercial vehicle financing. It is open to the idea of acquiring a micro finance lender as well.
Improvement in CASA, overall efficiency and lower slippages (hence lower interest reversal) has prompted the management to guide at an improvement in interest margin to 3.2 percent in FY19 from 3.12 percent at present. The bank is also targeting a 1 percent return on assets (RoA) by fiscal end.
Focused approach to step up fees
To focus on improving its share of core fees, the bank has recently acquired stake in Equirus Capital: a boutique investment firm and has recruited specialists for treasury sales and government business. The company has brought on board a strategic investor -- True North Managers -- in its non-banking subsidiary FedFina, which should help it scale-up the business.
The bank is well capitalised and has to show consistent delivery for a rerating in the future.
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