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Thursday, July 24, 2008

Banks - Booster shot for reforms?

Post the government's victory in Tuesday's confidence vote, the Finance Minster
indicated that three bills pending the parliament's approval are high priority. In our
view, the three bills are: Banking Regulation Bill, comprehensive bill to amend the
insurance sector, and Pension Fund Regulatory and Development Authority Bill, 2005.
We believe large universal institutions will be the main beneficiaries if reforms
proceed. In such a scenario, our top picks would be ICICI Bank, HDFC and SBI.

Government may be in a position to pursue meaningful financial reforms
Post the government's victory in Tuesday's confidence vote, the Finance Minster indicated
that three bills pending the parliament’s approval are high priority. In our view, the three bills
are: Banking Regulation Bill, comprehensive bill to amend the insurance sector, and
Pension Fund Regulatory and Development Authority Bill, 2005. Along with the passing of
the bills, we believe the government may now be in a position to pursue meaningful financial
reforms to combat macroeconomic headwinds and to counter-balance any negative fallout
from the farm loan waiver.

These bills would allow the government to pursue financial reforms to combat
macroeconomic headwinds and to counter-balance any negative fallout from the farm loan
waiver. Do note that most reforms will need to be cleared by the parliament, hence are
equivalent to trust votes.

In the near term, if the government pursues meaningful reforms to unshackle the
banking/financial sector, stock valuations will likely react positively. We believe large
universal institutions such as ICICI, HDFC and State Bank of India will be the principal
beneficiaries of forward movement in reforms, and these stocks should be in the forefront of
any potential rally in the near term. If the reforms proceed, our top picks would be ICICI
Bank, HDFC and SBI.

While the incremental news flow may be positive, we believe the banking sector is not out of
the woods yet in terms of the operating environment. The principal risk stems from current
high crude oil prices, which is leading to a rising subsidy bill on account of bonds issued to oil
and fertiliser companies. Near-term challenges in terms of high inflation, high fiscal deficit
and high current account deficit will likely keep the operating environment for the
banking/financial sector tough.

Pending reforms and likely impact analysis
Pending reforms Likely beneficial impact
Alignment of voting rights with
shareholding pattern in private sector
banks. Voting rights are currently
capped at 10% irrespective of the
proportion of equity ownership. Foreign
direct investment (FDI) is allowed up to
74%.
􀂃 We believe this will open up doors for foreign investments in private
sector banks if RBI relaxes norms in 2009. Currently, regulations
require RBI’s approval to own more than 5% in case of any private
sector bank (overall ceiling set at 10%). Further, reforms under this
head may spur M&A within domestic private sector banks.
􀂃 In our coverage, we believe HDFC Bank and Axis Bank will benefit.
Enhancement of FDI ceiling in
insurance. Current regulation requires
74% to be owned by the Indian
promoter.
􀂃 This, we believe, increases the potential for early value unlocking by
the Indian promoter of the life insurance business.
􀂃 In our coverage, we believe ICICI Bank, HDFC Bank and SBI will
benefit the most.
Reduction in government holding in
public sector banks. Current regulations
require a minimum 51% stake to be
owned by the Government of India
(GOI). Allow banks to issue non-voting
shares or preference shares.
􀂃 We believe reduction of GOI stake is unlikely. However, public sector
banks may be allowed to raise capital through non-voting shares.
This should significantly solve capital constraints for select public
sector banks (especially positive for those with close to 51% GOI
stake).
􀂃 In our coverage, we believe BOB (54% GOI stake, tier-1 capital at
7.6% as of March 2008) and Union Bank (51% GOI stake, tier-1
capital at 7.5% as of March 2008) will benefit the most.
Consolidation among public sector
banks.
􀂃 We believe this will be a positive for weaker, smaller and capitalconstrained
public sector banks.
􀂃 However, reforms under this could still face stiff resistance from
employee unions.
􀂃 If it happens, we believe it will be positive for public sector banks in
general.
Private sector participation in pension
sector.
􀂃 Fee income potential for banks.

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All the matter on this site has been taken from the reports prepared by certified analyst of various organisations. As per rules the reports are not posted the same day but after two days to protect the rights of subscribers. Non of the information posted here is my view or prepared by me.