Cause for concern? HDFC Bank is lagging ICICI Bank where it matters as investors count Rs 5 lakh crore loss

HDFC Bank has delivered the worst stock returns among most large private sector peers so far this year as brokerages say the operating gap between India's largest private lender and ICICI Bank is widening across key metrics such as margins, loan growth and return on assets. The stock is down 22% year-to-date, eroding nearly Rs 5 lakh crore in investor value, compared with a 9% gain in ICICI Bank.

YES Bank, another private lender of strong retail interest, has risen 7%, while Axis Bank is down about 1% and Kotak Mahindra Bank has fallen 14%. On the market screen, The concern raised by analysts is that HDFC bank is still behind ICICI Bank on business momentum and profitability after its merger with HDFC.

While loan growth has improved in the latest quarter and deposits remained strong, margins are under pressure, even as retail growth is weak.

Margin gap remains the key worry

Anand Rathi said HDFC Bank has been unable to close the post-merger gap with ICICI Bank across net interest margin, loan growth and CASA ratio. It said the gap in funding cost may take longer to narrow because CASA growth is still lagging loan growth.


"HDFC Bank has been unable to close the post-merger gap with ICICI across key operating metrics, including NIM, loan growth and CASA ratio," the broker said.

HDFC Bank's net interest margin fell 13 basis points quarter-on-quarter to 3.4%. The decline came as lending yields softened and the bank continued to rely more on costlier deposits and borrowings. The bank faces a trade-off between faster loan growth and defending margin because its loan-to-deposit ratio is already high.

Emkay also flagged margin pressure. It said HDFC Bank reported a 3% earnings miss as profitability lagged balance-sheet expansion because of margin compression, lower other income and higher provisions.

"Credit growth improved, while higher funding costs weighed on margins," Emkay said. The brokerage further stated that HDFC Bank's higher cost of non-granular deposits and elevated borrowing mix compressed NIM to 3.4%. It expects margins to recover gradually as the bank reduces reliance on borrowings and funding costs ease.

Credit growth trails ICICI and other banks

HDFC Bank's loan growth improved to nearly 16% year-on-year (YoY), helped by corporate and small business lending. Corporate loans rose 18.6%, while commercial and rural banking excluding agriculture rose 18.7%.

Retail loan growth, however, remained weak at 7.2%. This has been a concern because retail loans usually carry better spreads and give banks more stable profitability.

Anand Rathi said HDFC Bank's credit growth remained below peers such as ICICI Bank and Axis Bank despite the pick-up. Emkay said retail growth has stayed around 7% for three straight quarters.

Jefferies said HDFC Bank’s push for loan growth has dragged margins. The brokerage said the bank’s desire to participate in corporate lending helped loan growth rise to 16%, but it also pushed NIM lower by 12 basis points quarter-on-quarter.

"The Bank's desire to participate in corporate lending lifted loan growth to 16% YoY, but dragged NIMs,” Jefferies said.

Also Read: Rs 91,000 crore wipeout: What spooked HDFC Bank, Axis Bank and Kotak investors even as credit growth picked up?

HDFC Bank's deposits grew 15% YoY and 2.1% quarter-on-quarter. The bank continued to gain market share in deposits, but CASA growth was softer at 9.4%. The CASA ratio moderated, which added pressure on funding costs.

The loan-to-deposit ratio rose to 95.8%, leaving limited room for aggressive loan growth unless the funding mix improves.

ICICI Bank keeps operating lead

The comparison with ICICI Bank is where HDFC Bank looks weaker. ICICI Bank reported stronger earnings, better margins and faster credit growth. ICICI Bank delivered profit after tax of Rs 14,800 crore, up 16% YoY and 10% ahead of its and consensus estimates. The bank’s return on assets stood at a peer-best 2.5%.

ICICI Bank's net interest margin was 4.36%, far higher than HDFC Bank’s 3.4%. Its advances grew 20% YoY, led by corporate, business banking and rural loans. Business banking grew 28%, rural loans rose 35% and retail loans recovered to 12%.

Emkay said ICICI Bank remains well placed because of system-beating growth, strong provision and capital buffers, superior return on assets and stable management. "We remain positive on ICICI Bank given its system-beating growth re-acceleration, higher resilience backed by strong provision and capital buffers, superior RoA delivery and stable management," it said.

That is the operating gap analysts are talking about. HDFC Bank may have delivered poor stock returns so far this year, and that is reflective as ICICI Bank continues to score better on NIM, RoA, loan growth and management stability.

Asset quality still supports HDFC Bank

HDFC Bank's asset quality remains a positive. Gross slippages were 1.1% of loans, helped by stable trends outside seasonal agriculture-related stress. Gross non-performing assets stood at 1.17%, while net NPA was around 0.4%.

The bank also carries a strong contingent provisioning buffer of Rs 48,900 crore, or about 1.6% of loans, according to Anand Rathi. Brokerages said this should help absorb any impact from the expected credit loss framework.

Jefferies said credit quality is holding up and lower credit costs helped profits during the quarter. It said operating efficiency also supported pre-provision profit growth, with slow branch and staff expansion keeping costs under control.

PL Capital said the quarter was soft because of lower net interest income and fees, but better operating expenses and asset quality helped offset the weakness. It trimmed its target price to Rs 1,040 from Rs 1,100, while retaining a Buy rating.

What investors will watch next

For HDFC Bank, the main trigger will be margin recovery. Investors will watch whether deposit costs ease, whether the bank can improve CASA growth and whether the merger-related funding drag reduces over the next few quarters.

The bank is also expected to benefit from the FCNR(B) window, with inflows likely to pick up during July-August. Analysts said this could provide some funding support from the second quarter.

Management stability will also remain a monitorable. Anand Rathi and Emkay both noted uncertainty around the Reserve Bank of India extending the tenure of the current chief executive, given recent developments at the bank.

Brokerages continue to maintain Buy ratings on HDFC Bank because valuations remain reasonable and the sector backdrop is favourable. But among large private banks, many still prefer ICICI Bank and Axis Bank.

(Disclaimer: Recommendations, suggestions, views and opinions given by the experts are their own. These do not represent the views of Economic Times)